Indulge me for a moment, and allow me to think that I have such influence that, after reading about when you should submit your self assessment, you immediately went off and submitted your tax return. Depending on the amount of tax you owe, you may have been told by HMRC to make payments on account (I almost wrote asked, but we all know it’s not really an invitation!) But what are they and why do you need to pay them?
If your tax liability for the year is more than £1,000, and less than 80% of this is deducted at source (e.g. through PAYE if you’re employed), then you will pre-pay next year’s tax in two instalments. As the next year hasn’t happened yet, HMRC assumes that your tax liability will be the same as the previous year. The first instalment is due by the 31st January of the previous tax year, and the second by 31st July. If your actual tax for the year is more than the amount you’ve paid upfront, there’ll be a balancing payment due by 31t January of the following year.
The payments on account include Class 4 National Insurance contributions, but not Class 2, which are instead paid with your balancing payment. Other payments not included are student loan repayments and capital gains tax.
Once you get into the swing of it then it won’t really feel any different than if you were paying in arrears. The first year though can feel particularly painful, as you’ll basically be paying 150% of your tax in one go!
If you have good reason to believe that your income will be lower next year, for example if you’re planning on retiring, you can ask HMRC to reduce your payments on account. This can be done either through your online personal tax account or using form SA303. You should be careful when reducing your payments, so make sure you read the HMRC guidance on this first.
They’re HMRC’s attempt at being helpful. Asking you for money upfront might not seem to be that helpful at first glance, but if they didn’t exist you’d effectively be saving for last year’s tax from this year’s income. Without payments on account you’d never be able to stop working!
Those in employment also pay their tax liability upfront, in monthly instalments, but of course it feels so much worse when you’re actually paying money over rather than it being deducted before it ever gets to you!
Let’s assume that 2016-17 was the first year you were in business, no tax was collected at source, and your tax liability has been calculated as £2,000. The full £2,000 is due by 31st January 2018. Your liability for 2017-18 is assumed to also be £2,000, so your payments on account will be £1,000. The first payment is due by 31st January 2018, meaning that you’ll be paying a total of £3,000 then. The second payment is due by 31st July 2018.
You’ve now paid £2,000 towards your 2017-18 tax. When your liability for the year is calculated you actually owe £4,500. There will then be a balancing payment of £2,500 (£4,500 less the £2,000 you’ve already paid) due by 31st January 2019, together with first balancing payment of £2,250 towards your 2018-19 tax.
As you can see, even if you’re not currently making payments on account it’s something you should be aware of, and plan for accordingly.
As with anything related to HMRC, if you think you are going to have difficulty paying, let them know as soon as possible. If you realise that you won’t be able to make a payment on account, never ignore it and hope it will go away. By letting them know of problems early you can agree an instalment plan.
If you’ve already missed one or more payments, it’s even more important to talk to HMRC straightaway. You will incur interest on the late payments, but may still be able to agree an instalment plan.
If you have any questions about self assessment, payments on account, or planning your cash flow to reduce the impact on your finances, I’d love to hear from you so do get in touch.