What is the differences between cumulative and non-cumulative tax codes?

Understanding the differences between cumulative and non-cumulative tax codes is crucial for UK taxpayers and employers, as it directly impacts how much tax is paid. A UK tax code, featuring a combination of numbers and letters, refers to different situations and has implications for your Personal Allowance.

Here's a comprehensive breakdown of both types:

Cumulative Tax Code

A cumulative tax code is the most common type of tax code in the UK, used by most workers, and is the default way HM Revenue & Customs (HMRC) calculates your income tax under the Pay As You Earn (PAYE) system.

• How it works: This system tracks your earnings and tax paid from the start of the tax year (April 6) to the current date. It calculates the tax due on each payment after considering:
• • The amount of tax you've already paid this year.
  • How much of your total tax-free Personal Allowance you have utilized.
  • This means your tax-free allowance increases monthly and only when your earnings exceed this limit do you start to owe tax.
• Goal and advantages: The primary goal is to smooth out your tax liability and prevent you from overpaying tax early in the year, ensuring a more accurate and fair reflection of your tax owed as your income changes. Any unused Personal Allowance also rolls over into future pay periods. This is particularly beneficial if you have variations in income, start working part-way through the tax year, or have periods without pay.
• Most common example: The standard tax code for the 2024/25 tax year is 1257L, which indicates entitlement to the standard Personal Allowance of £12,570.
• How to identify: A cumulative tax code will usually end with the letter L (e.g., 1257L). It excludes letters such as W1, M1, or X, which signify non-cumulative codes.
• Practical Example (John earning £300/week, two weeks off):
• • In weeks 1 and 2, John pays £11.60 tax each week, with a £242 weekly tax-free allowance.
  • He takes weeks 3 and 4 off, but his unused weekly tax-free allowance carries over.
  • When he comes back in week 5, his total gross pay for the year so far is £900, while his cumulative tax-free allowance has grown to £1210.
  • As his gross earnings now fall below his cumulative tax-free allowance, he doesn't pay any tax in week 5 and gets a rebate of £23.20 for the tax overpaid. This demonstrates how the cumulative code adjusts to reflect the whole picture.

Non-Cumulative Tax Code

A non-cumulative tax code is fundamentally different in its calculation approach.

• How it works: Your tax is calculated solely on your earnings in a given individual pay period. When working out your tax, HMRC does not consider:
• • Any tax you've already paid.
  • How much of your Personal Allowance you've used.
  • It only looks at an isolated view of that specific pay period.
• Disadvantages: The main disadvantage is that any unused Personal Allowance does not roll over into future pay periods. This typically means you'll end up paying more tax than you actually owe initially, as it doesn't consider your wider circumstances.
• How to identify: A non-cumulative tax code typically ends with the letters W1, M1, or X (e.g., 1257L W1 or 0T). These are often referred to as "W1/M1" or "week 1/month 1" bases.
• When it's used: HMRC usually puts people on non-cumulative or emergency tax codes when they don't readily receive your income details following a change in circumstances. This can happen when you:
• • Start a new job.
  • Work for an employer after a period of being self-employed.
  • Receive company benefits or the State Pension.
  • Change employers without providing a P45.
  • They are intended to be temporary measures until HMRC receives your full income details.
• Practical Example (John earning £300/week, two weeks off):
• • In weeks 1 and 2, John pays £11.60 tax, based on his £300 weekly earnings and £242 weekly tax-free allowance.
  • He doesn't work in weeks 3 or 4.
  • In week 5, even after his break, his tax is calculated in the exact same way as weeks 1 and 2, so he pays the same £11.60 tax. He does not receive a rebate because the unused allowance from weeks 3 and 4 does not roll over.

Key Differences Summarized

The key differences between cumulative and non-cumulative tax codes are:

• Calculation Basis: A cumulative code considers your overall year-to-date earnings and tax paid, looking at the "whole picture". A non-cumulative code takes into account only your earnings for a specific pay period, providing an "isolated view" of that period.
• Personal Allowance Rollover: With a cumulative code, any unused Personal Allowance rolls over to future pay periods. With a non-cumulative code, unused allowance does not roll over.
• Adjustment of Tax Differences: Cumulative codes automatically adjust for any over or underpayments throughout the year, smoothing out tax 'bumps'. Non-cumulative codes do not make these adjustments, which can lead to higher tax deductions initially.
• Impact of Fluctuating Earnings: Employees with variable pay tend to experience steadier tax deductions when using cumulative codes, thanks to ongoing adjustments. Non-cumulative codes can lead to more significant fluctuations in take-home pay for variable earners.
• Nature: Cumulative codes are the standard and default system for most employees. Non-cumulative codes are usually temporary solutions, commonly applied in emergency tax situations.

Managing Your Tax Code

• How to find your tax code: Your tax code will be written on your payslip. You can also use the government’s online tax code checking tool at www.gov.uk/check-income-tax-current-year.
• Why non-cumulative codes occur and how to change them: Emergency tax codes (non-cumulative) are usually assigned if HMRC doesn't receive your income details promptly after a change in circumstances, sSuch as starting a new job without submitting a P45. To rectify this, you should:
• • Provide your P45 from your previous job to your new employer.
  • Contact HMRC directly by phone (0300 200 3300) or through your Personal Tax Account online. Provide details about your income and circumstances.
  • When HMRC gets the correct details, they’ll update your tax code and notify your employer.
• Refunds for overpayments: If you've paid too much tax due to being on a non-cumulative code, HMRC usually catches this by the end of the tax year (April 5) and will send you a P800 or Simple Assessment letter, often resulting in a refund. For 2023/24, HMRC refunded £5.6 billion to 4.2 million taxpayers. You can also request a mid-year refund by submitting a P87 form or calling HMRC if you've overpaid, which typically takes 10–15 days for the refund to be processed.
• Employer responsibilities: Employers have a critical role in applying tax codes correctly. They must:
• • Collect necessary income information, such as a P45, from new employees.
  • Forward this information to HMRC.
  • File Real Time Information (RTI) submissions accurately and on or before payday.
  • Stay vigilant about updates from HMRC regarding changes in employee tax codes (P6/P9 notices) and apply them promptly.
  • Educating employees on understanding their payslips and tax codes can also help prevent issues.

FAQ's:

1. What is a cumulative tax code?

A cumulative tax code calculates your tax based on your total earnings and tax paid since the start of the tax year (April 6). It ensures that your personal allowance is spread evenly across the year and adjusts for any overpayments or underpayments automatically.

2. What is a non-cumulative tax code?

A non-cumulative tax code, often marked with an "X" or "W1/M1" (Week 1/Month 1), calculates tax only on the income for the current pay period. It does not account for previous earnings or tax paid earlier in the year.

3. How does a cumulative tax code work?

With a cumulative tax code, HMRC tracks your total income and tax payments throughout the year. If you earn less in one period, any unused personal allowance rolls over to the next period, potentially reducing your tax liability.

4. How does a non-cumulative tax code work?

A non-cumulative tax code treats each pay period (week or month) in isolation. It does not consider your total earnings or tax paid earlier in the year, which can result in overpayment or underpayment of tax.

5. When is a cumulative tax code used?

Cumulative tax codes are the default for most employees. They are used when your tax situation is straightforward, and HMRC has all the necessary information about your income and allowances.

6. When is a non-cumulative tax code used?

Non-cumulative tax codes are typically used in temporary or emergency situations, such as:

• Starting a new job without a P45.
• HMRC not having complete information about your income.
• A temporary adjustment to your tax code.

7. What are the advantages of a cumulative tax code?

• Automatically adjusts for overpayments or underpayments.
• Ensures you receive the full benefit of your personal allowance.
• Reduces the risk of paying too much or too little tax over the year.

8. What are the disadvantages of a non-cumulative tax code?

• Does not account for previous earnings or tax paid.
• Can lead to overpayment or underpayment of tax.
• Requires manual adjustments or a tax refund claim to correct errors.

9. How can I check if I have a cumulative or non-cumulative tax code?

You can check your tax code on your payslip. Cumulative tax codes are standard (e.g., "1257L"), while non-cumulative codes often include "W1" or "M1" (e.g., "1257L W1").

10. Can I switch from a non-cumulative to a cumulative tax code?

Yes, you can contact HMRC to update your tax code if you believe a non-cumulative code has been applied incorrectly. Once corrected, your tax will be recalculated on a cumulative basis.

11. What should I do if I think my tax code is wrong?

If you suspect your tax code is incorrect, contact HMRC or check your Personal Tax Account online. You may need to provide details about your income, benefits, or allowances to ensure your tax code is accurate.