Here are the main reasons why that happens.
Your income changes during the year
PAYE income is taxed each pay period on the assumption that your income remains constant during the year.
If it wasn’t, you could have the administrative nightmare of a situation where you pay less tax at the start of the year and then more as your annual income moves up the tax brackets.
But the smoothing out means that any year when an employee is not earning the same amount each week comes with greater likelihood that the wrong amount of tax will have been collected, says Robyn Walker, a partner at Deloitte.
“Employees receiving lump sum payments should consider checking to see what rate of tax has been deducted at the time of receipt of such payments to ensure any tax shortfall can be put aside.”
You get an extra payment – backpay, redundancy, or baby bonus
This is particularly the case if you are not working for a full year. That is why backpay for someone who goes on parental leave can be a problem.
“Where an employee receives an extra pay, that amount should be taxed at a flat rate based on the amount of income earned in the previous four weeks, and the amount of the payment,” Walker said.
“If the employee has been on parental leave before receiving the lump sum payment, then the rules may be under-taxing the amount – for example, if an employee had received $0 income in the previous four weeks and a $5000 lump sum payment, they would be taxed assuming that total annual income is $5000 and tax would likely be withheld at 10.5 per cent rather than what may be the rate the employee would ordinarily be on.”
She said sometimes employers would top up an employee’s pay while on parental leave, but it might be paid as half at the beginning and half at the end of the period.
“I would expect it would be the payments on the return to work which would have the potential to create under taxation.”
This may have been what happened to one registered nurse who contacted RNZ after she received a bill of $4300.
“I received a lot of the long-owing back pays last year which helped us during financial struggles, but has now left us with more. I have just started maternity leave with my first baby and receive the very minimal fortnightly government grant which is half of my usual income, my husband is a police officer so we are two public servants on very little income as it is so the shock of having a bill for over $4000 hit us hard.”
Another nurse said she had been left with a bill of $4600 after receiving backpay and being on parental leave for six months.
“I tried calling IRD however their high call volumes mean they won’t take my call. We can’t afford this on one income. My wife is now a stay at home mum.”
You get your PIR wrong
If you have any investments in portfolio investment entities (PIE) – such as your KiwiSaver – you need to select a prescribed investor rate, for the tax on your earnings from that investment. This is based on your annual income up to a maximum of 28 per cent.
But Walker said if people got their PIR wrong, some of the income becomes part of their normal personal tax calculation and any shortfall will be collected.
“You can’t select a lower PIR and keep that tax benefit. For example, if you should have a PIR of 28%, but your PIR has been selected as 10.5%, the different will be subject to tax at 28% in your tax return.”
This may be what happened to someone who wrote in about their experience of a tax bill while on the supported living allowance.
“Even though the bill was only $323.99, I had to set up a direct debit for it which incurred a further $5 fee. It may not seem very much money to most people, but living on a benefit is very difficult and every dollar counts. I have money in my KiwiSaver fund which I cannot access until I am 65, which I think is where the incorrect tax rate was calculated.”
You earn more than your Working for Families entitlements are set for
Working for Families is paid out based on annual income. Above household income of $42,700, your entitlements abate at a rate of 27 per cent. If you haven’t given the right information about what your household is earning for the credits to be calculated on, you can end up having to pay them back.
Some people choose annual payments for this reason.
One woman said her daughter had been asked to repay $3718 that she had been overpaid. She is only working 20 hours a week. “Inland Revenue says she will need to repay this in instalments. She feels that she will never get out of debt.”
Inland Revenue said total Working for Families debt had reached $280.025 million at the end of May this year.
Last August, it was $238m. In July 2020, 44,000 people owed $162m.
You have an extra pay day
Some years, due to the way the dates fall, you might end up with 53 weekly pay days or 27 fortnights.
“When there is an extra pay day, the PAYE rules won’t be entirely accurate because all the calculations assume there are only 52 weeks or 26 fortnights,” Walker said.
“Different employees are hit in different years depending on what day of the week they are paid, given 365 isn’t perfectly divisible by seven days.”
If your underpayment is entirely due to this calendar quirk, Inland Revenue can write it off – but if there are other factors involved, it won’t.
