This year marks 80 years since the introduction of Pay As You Earn, commonly known as PAYE. Like many historical tax changes – including the first introduction of income tax itself - it was introduced as a result of war.  

The birth of PAYE  

Before PAYE was introduced, most people with a high enough income to pay income tax completed an annual assessment and paid the tax due in two half-yearly instalments. In this way, tax was paid in arrears – many months after the income had been earned. 

The idea of deducting tax before workers received their income was not entirely unknown, but was restricted to those whose employment fell within the category of ‘Schedule E’.  

In 1803, with the introduction of a ‘schedular’ system, civil servants and public officials were placed in a different taxing category to other employees. Employees within the ‘Schedule E’ category had their tax deducted by their employer and paid over to the Revenue before they received their wages. In 1860, clerical workers within the railway also were transferred to Schedule E  – with all railway workers coming into the deduction regime from 1922.   

The Second World War  

After the start of the Second World War, with tax rates (and wages) rising - and the point at which workers became liable for taxes falling - the number of taxpayers was increasing rapidly. Many of those who had to complete annual assessments found that paying tax in two large amounts each year caused hardship, and a new approach was needed.  

Initial steps towards smoothing out collection of income tax was taken in 1940, when a scheme for weekly-paid manual workers allowed their employers to deduct the half-yearly tax payments over a period of weeks. This spread out the payments somewhat but, because it was still collected in arrears, caused problems for employees if their earnings fluctuated. The Revenue often lost out too if an individual was out of work when the collection was due as no deduction was possible until the individual had been traced to a new employer. After a period of consideration – and the introduction of PAYE in the US and Canada – the decision was taken to move to a regular, weekly collection based on current earnings.  

PAYE was due to be announced on 21 September 1943. But, before he could address Parliament, Chancellor Sir Kingsley Wood collapsed and died at his home at the age of 62. The announcement was deferred to the following day, when the Financial Secretary to the Treasury presented a white paper entitled ‘A New System for the Taxation of Weekly Wage Earners'.  

Spreading the word  

The introduction of PAYE required a significant education campaign for both employers and employees. One million employers needed to be taught how to operate the system and around 16 million people – all earning over £100 - had to be issued with a tax code and educated in what it meant. By January 1944, around 15 million tax codes had been issued.  

You can see on a Pathé newsreel of the day the receipt of a code and an explanation of what it meant – and how people had to be told of the importance of not just throwing these documents away.  

The last 80 years  

Naturally there have been plenty of changes to PAYE since 1944. National Insurance was added to the system in 1975, and computerisation followed on its 40th birthday in 1984. The paper cards which contained all the employees’ details were replaced by databases held in 12 regional centres. 

At the time, it wasn’t possible to centralise all the records into one location as computer systems were not able to cope with the volume of taxpayers. Tax records were based on the location of the employer, so employees with multiple employers headquartered in different areas could have quite the paper chase to pull their record together into one picture.  

More recent changes include the introduction of Real Time Information (RTI) in April 2013 which requires employers to file data electronically on or before every payday. This enables HMRC to receive up to date information on wages and tax deductions and was a necessary step for the introduction of Universal Credit.  

Where next? 

Despite its challenges, one of the benefits of PAYE is that it enables us to keep the vast majority of the population out of Self-Assessment. Many other countries require their citizens to complete a tax return each year to finalise their tax affairs. 

Employees can also now see more details about what employment income has been reported - and details of their tax code - thanks to the development of the HMRC app and the Personal Tax Account (PTA). 

As the world of work gets more complex, with more people having multiple jobs and/or moving jobs more frequently, up to date PAYE data is going to be vital to keep on top of tax obligations. PAYE is likely to be with us for many more decades to come.  

References/further reading 

https://www.att.org.uk/history-income-tax-and-hmrc 

https://www.taxation.co.uk/articles/2002-05-02-190631-birth-paye  

 

This article reflects the position at the date of publication shown above. If you are reading this at a later date you are advised to check that that position has not changed in the time since.    

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