For some self-employed earners, payments on account are a great way to help manage their tax obligations.
However, payments on account have also caught out many people who use them; if you miss one of your deadlines you can create very similar issues to when the tax bill comes due.
As such, we decided to look at the most common questions we’re asked and put together a quick guide for those who may be wondering if this is the right move for them.
As always, if you think yours might be an edge case based on the information below, we highly recommend consulting an expert directly to avoid any costly mistakes. However please be aware that when HMRC requires payments on account, they will make sure you’re aware.
What Are the Benefits of Payments on Account?
Simply put, by paying part of your tax bill in advance, you benefit by reducing the impact of each payment on your liquidity. It’s a very rare business model where two smaller payments aren’t easier to manage in your cashflow than one larger payment.
At the same time, HMRC benefits, because they receive part of their revenue early.
Payments on account are usually split into two instalments, each of 50% of your previous years’ tax bill.
Who Must Make Payments on Account?
HMRC will usually require payments on account for taxpayers whose income is mostly untaxed at source.
This means that if:
- You paid £1,000 or more in your last self-assessment tax bill
- Less than 80% of your income is taxed at source (PAYE, etc.)
You will probably be making payments on account.
When Do You Make Payments on Account?
A common misconception is that while the final payment is due at the usual deadline, the other one can be paid at any point beforehand. In fact, both payments have set deadlines.
- 31st July – pay for half of your previous years’ tax bill at the halfway point
- 31st January – Also pay the balancing payment for the previous tax year
A balancing payment covers the difference between what you’ve already paid and your actual tax bill. Ideally you will know if your balancing payment will be significant well in advance, but we recommend keeping a close eye on your financials to make sure!
Also important is to check that you’ll have enough liquidity on the 31st of July for that payment too. Essentially this adds a second point in the year where you will need to carefully manage your cashflow, but the amount needed should be lower on both accounts.
What to Watch Out for When You First Make Payments on Account
The biggest thing to realise is that the first time you become eligible, your tax bill on the next 31st January can be much larger than usual.
Effectively you’ll be paying both your previous year’s tax obligations and a 50% advance on the next year’s tax obligations at once.
What Do You Do if Your Income Declines Over the Year?
If you anticipate that your income will fall during your current tax year for whatever reason, you can apply to HMRC to reduce your payments so that you don’t end up overpaying. This can be done through your online account.
However, care should be taken here; as always, underpayment of your taxes can cause issues, including in this case HMRC charging interest on your payment shortfall. This will increase your tax liability overall.
If you have any further confusion or simply want professional support maintaining compliance with HMRC, please get in touch and we’ll be happy to help.
