How PAYE Tax Is Calculated: A Step-by-Step Guide for 2025-26
Pay As You Earn (PAYE) is the system by which HMRC collects income tax and National Insurance from employees automatically, via their employer. Most UK employees never need to think about it — but understanding how the calculation works helps you spot errors on your payslip and understand why your take-home pay changes throughout the year.
Step 1: Determine your tax code
Your tax code determines how much of your income is tax-free. The most common code is 1257L, which gives a Personal Allowance of £12,570 — meaning the first £12,570 of your annual income is not subject to income tax.
The number in the code is roughly 1/10th of your tax-free allowance (1257 × 10 = £12,570). The letter indicates adjustments — L means standard Personal Allowance, M or N indicates Marriage Allowance transfer, K indicates taxable benefits exceed the Personal Allowance.
Step 2: The cumulative system
PAYE operates on a cumulative basis. Your employer calculates your tax not just for the current pay period, but based on your earnings and tax paid year-to-date from 6 April. This means if you overpay tax in one month, it can be automatically corrected in a later month.
For a monthly-paid employee on £35,000/year with a 1257L code:
- Annual personal allowance: £12,570
- Monthly personal allowance: £1,047.50
- Monthly gross pay: £2,916.67
- Monthly taxable pay: £2,916.67 - £1,047.50 = £1,869.17
- Monthly income tax at 20%: £373.83
Step 3: Apply the tax bands
For 2025-26 in England, Wales, and Northern Ireland:
| Band | Taxable income | Rate |
|---|---|---|
| Personal Allowance | Up to £12,570 | 0% |
| Basic Rate | £12,571 to £50,270 | 20% |
| Higher Rate | £50,271 to £125,140 | 40% |
| Additional Rate | Above £125,140 | 45% |
Why does your tax change month to month?
With the cumulative system, each month's tax calculation catches up with the year-to-date position. If you receive a bonus in month 6, the system recalculates based on all earnings so far — your total tax may jump significantly in that month but remain correct over the full year.
Emergency tax codes (W1/M1)
If your employer does not have your full PAYE history — for example, you started a new job without a P45 — they may use an emergency tax code on a Week 1/Month 1 (W1/M1) basis. This means tax is calculated non-cumulatively, as if each pay period is the first of the year. This can result in over or underpayment, which HMRC corrects once it receives accurate information.
National Insurance: a different calculation
National Insurance is always calculated on a non-cumulative (period-by-period) basis, unlike income tax. There is no year-to-date NI — each pay period stands alone. The employee rate in 2025-26 is 8% on earnings between £12,570 and £50,270 per year (£242/week and £967/week), and 2% above.
Frequently asked questions
Why did I pay more tax in a month when I received a bonus?
Under the cumulative system, a bonus pushes your year-to-date earnings higher. Your employer withholds tax at a rate that reflects your projected annual income, which can make the tax deduction in the bonus month look very large. However, if the bonus is a one-off, future months may see lower deductions as the system corrects.
How do I check if my PAYE is correct?
Check your P60 at the end of the tax year — it shows total pay and tax for the year. HMRC will issue a P800 if the total differs from what should have been paid, resulting in a refund or a tax code adjustment.