PAYE handles tax automatically for most UK employees, but getting it wrong costs real money. Here is exactly how it works in 2025/26.
Most people encounter PAYE for the first time on a payslip and never question it further. That is usually fine, until an employer uses the wrong tax code, you start a second job, or you pick up freelance income alongside your salary and suddenly owe HMRC money you thought had already been handled.
Your employer does not simply deduct a flat percentage. PAYE is cumulative: throughout the tax year (6 April 2025 to 5 April 2026), your payroll software tracks the total tax you have paid to date and compares it to the total tax you should have paid on your cumulative earnings. This means if you earn a large bonus in month one and then have a quiet month two, the system self-corrects rather than overtaxing you twice.
Each pay period, your employer takes your tax-free personal allowance, spreads it equally across your pay periods (so one twelfth each month), and taxes only the amount above that. The result is that most employees with one standard job and no unusual income pay the right amount of tax without ever filing a return.
PAYE applies Income Tax in bands. Here is how your salary is taxed once it exceeds the Personal Allowance:
| Taxable Income (above £12,570) | Rate | Notes |
|---|---|---|
| £0 to £37,700 | 20% (Basic rate) | Most employees stay here |
| £37,701 to £125,140 | 40% (Higher rate) | Personal Allowance tapers above £100,000 |
| Above £125,140 | 45% (Additional rate) | No Personal Allowance remains |
On top of Income Tax, you also pay National Insurance through PAYE. For 2025/26, employees pay 8% on weekly earnings between £242 and £967, and 2% on anything above £967. Your employer pays a separate employer NI contribution on top of this, which does not come out of your take-home pay directly but does affect the total cost of employing you.
To see how these bands translate into actual take-home figures for your salary, use the TapTax salary tax calculator to run your own numbers in seconds.
PAYE would be meaningless without your tax code, which tells your employer how much of your income to leave untaxed. The standard code 1257L simply means you get £12,570 tax-free. Multiply the number by ten and that is your tax-free amount. The letter tells your employer which rules apply.
Codes can go wrong more easily than most people realise. Common culprits include starting a new job without a P45, having two concurrent employments, receiving taxable benefits (company car, private medical insurance), or earning over £100,000 where the Personal Allowance gradually disappears. A wrong code in either direction costs you: too low and you are overpaying every month; too high and you will face an unexpected bill at the end of the year. You can review all your current codes and understand what each letter means by reading TapTax's complete guide to UK tax codes, and if you suspect yours is wrong, check your tax code now before the error compounds across the whole tax year.
Suppose you earn £35,000 and your employer is using a BR (Basic Rate, no allowance) code instead of 1257L. You would be taxed on the full £35,000 at 20%, paying £7,000 in tax rather than the correct £4,486. That is £2,514 overpaid, or roughly £209 a month quietly disappearing from your payslip. HMRC would eventually refund this, but potentially many months later.
PAYE collects tax on employment income and most pensions. It does not, by default, collect tax on:
If any of these apply alongside your PAYE salary, you will need to file a Self Assessment tax return. HMRC can sometimes collect smaller amounts of additional tax by adjusting your PAYE code for the following year, effectively clawing back what you owe through reduced take-home pay rather than a lump-sum demand, but this only works for amounts under a certain threshold.
From the employer side, PAYE comes with real-time obligations. Real Time Information (RTI) requires employers to report every payment to every employee to HMRC on or before the payment date, not monthly in arrears as the old system allowed. This means HMRC has near-live data on everyone's employment income throughout the year.
For employees, this has a quiet upside: HMRC spots mismatches faster, and P800 tax calculations (the end-of-year reconciliation that triggers refunds or demands) are increasingly accurate. For the self-employed running their own limited company and paying themselves a salary, RTI compliance is part of their payroll responsibility, not HMRC's.
PAYE is automatic, but automatic does not mean infallible. A single wrong tax code can cost you hundreds of pounds before you even notice.
By 31 May each year, your employer must issue a P60, a summary of all the tax and National Insurance you paid through PAYE in the completed tax year. Keep it. It is the formal proof of your earnings and deductions and you will need it if you claim a tax refund, apply for a mortgage, or need to complete a Self Assessment return.
If you leave a job during the year, you receive a P45 instead, which carries your pay-to-date and tax-to-date figures to your next employer so the cumulative PAYE calculation continues correctly rather than resetting.
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