If you ever fill in a tax return, you will be aware of the 31 January deadline to both file the return and pay the tax owed. But for many people, there is a second deadline six months later, with a requirement to make a payment on account to HMRC.
Not everyone who uses a Self-Assessment return makes one of these payments, but many people do, and it can be a nasty shock to discover that you need to make an extra payment that you have not budgeted for in the middle of the year.
Here is a guide to why the payments exist, how they are worked out and how to reduce them if you believe that you are being incorrectly charged.
What is a payment on account and why does it exist?
If you are employed, then the bulk of the tax you owe is usually deducted ‘at source’ through a system known as Pay As You Earn (PAYE). It is more complicated if you are self-employed or receive income as the director of your own limited company, since you usually only find out how much tax you owe after submitting your tax form for the previous year
However, HMRC does not want the self-employed running up huge tax debts, which is why the payment on account system exists. Essentially, this scheme involves you paying an estimated amount of tax in advance, in two tranches. On January 31, if your payments on account have not added up to as much as your tax bill, you make a ‘balancing payment’ as well as the first payment on account for the next year.
Who makes payments on account?
Not everyone who fills in a Self-Assessment form makes payments on account. If you fill in a self-assessment return but most of your tax is collected by PAYE you are in the clear. It’s the same story if you have a very small tax bill. More specifically, if more than 80 per cent of your tax is through PAYE or your tax was under £1000 last year after PAYE then you do not have to make any payments on account.
When must I pay it?
If you do make these payments, they are collected twice a year. The first payment is due on 31 January, along with any tax you owe for the previous year. The second payment is due six months later, on 31 July.
It usually makes sense to pay a few days early though, to ensure it arrives in HMRC’s account in time for the deadline.
How can I pay?
You can pay your payment on account in several different ways. These include setting up a Direct Debit for the amount needed, using a debit card or a corporate credit card online or paying directly from your bank account.
Some methods take longer than others. You can see the list of expected timescales online here. A direct debit can take up to five working days, but paying through your online bank account is almost immediate so factor this in if time is tight.
How can I work out how much I owe?
Your payments on account for the next tax year are worked out when you fill in a Self-Assessment form. Each payment should be the equivalent of 50 per cent of your tax bill the previous year, as the taxman is estimating that your bill will be the same.
The first payment on account on January 31, is paid at the same time as any ‘balancing payment’ for extra tax owed from the previous tax year after the form is filled in. The second payment is purely a forward payment for estimated tax that will be formally calculated when you file your Self-Assessment return.
When you file your Self-Assessment return, you will be told how much you need to pay for each payment on account as well as for any balancing payment, and it is worth making a note of the figure for the second payment as well as marking the date in your calendar so that you can remember to pay it, and budget in advance.
What happens if I forget?
HMRC will usually write to you to remind you about any upcoming payment on account before both deadlines. The July one is easier to forget because there is no form to fill in and many of us are in ‘summer holiday mode’.
If you forget, though, there can be repercussions. HMRC charges interest on late payments at a rate of 2.5 per cent over the Bank of England base rate. It can also charge a penalty of five per cent of the tax that you owe if your payment is 30 days late.
There is more information about penalties on the government website: https://www.gov.uk/self-assessment-tax-returns/penalties.
What about if my income fluctuates?
The payment on account system works well if your income remains steady but is less effective if your tax bill changes significantly from year to year. If it does, you can end up paying far too much in payments on account, or far too little.
If you pay too much, the good news is that HMRC will pay interest on the money that you have overpaid. The rate is one per cent below Bank of England base rate, however, so you will not be getting as good a deal as with most savings accounts. Many people also find that they struggle to pay the payments on account if their income has reduced significantly.
If your tax bill rises, the converse happens, and you end up with a large balancing payment which you may not have bargained for.
Can I reduce this payment?
If you think your payments on account will be either too much or too little, there are two ways of reducing them. The first is to ask HMRC to reduce them, either by signing in online or by filling in a form called SA303 and sending it to your tax office.
If you underestimate how much you need to pay, though, you may be charged interest or even receive a penalty if it is judged that you did not act carefully.
A more exact way to deal with overpayments on account is to file your tax return for the year as early as possible. Soon after you file this, HMRC will recalculate your liability for payments on account and reduce it, if necessary, as well as making repayments if you have already paid too much. You can file your Self-Assessment return as soon as you like after the tax year ends, so this can be done well before the July payment is due.
Fortunately filing the return does not lead to the next year’s tax being due any earlier, and you will have more time to plan when it comes to paying any tax liability.
What about if I can’t afford to pay?
Payments on account can be a struggle for individuals, particularly in this time of rising costs. If you are struggling to pay what you owe with July’s payment approaching, you should act as soon as possible. You can set up a Time To Pay arrangement to pay in instalments without penalty. If you do not pay at all and do not contact the taxman, HMRC can take you to court, instruct bailiffs or take money directly from your wages, so it is always best to get in touch, whatever the situation.
Tuesday 4 July 2023