Self-Assessment – What is a payment on account and do we have to pay it?

Self-Assessment – What is a payment on account and do we have to pay it?

When you start working for yourself as a sole trader, you do need to plan ahead for your ‘payments on account,’ which is an advance charge made against your future tax bill. 

‍Let us explain how this works?

When you’re self-employed or have to complete a self-assessment tax return for any reason (maybe you own property), your tax liabilities are calculated via your self-assessment. This process determines how much you will pay in a given tax year and is generally based on profits after deducting things like expenses.

If you are self-employed, you don’t pay tax in the regular monthly way that someone on a PAYE system does, it can be easy to confuse payment dates and end up owing HMRC more money. Payments on account are designed to mitigate this risk. 

What are payments on account?

Payments on account are advance payments based on your estimated tax bill for the coming year. This does not include student loan repayments or Capital Gains Tax. 

HMRC uses your previous year’s tax bill to estimate your upcoming one. This estimated bill is then split into two instalments, known as ‘payments on account.’ You’ll pay the first instalment in January for your self-assessment tax return and the next in the middle of the year. 

If you earn more than predicted in the upcoming year, your tax bill will be higher than your payments on account total – so you’ll have to make an additional ‘balancing payment.’ If you earn less, you can ask HMRC to reduce your payment or refund the difference if you’ve already paid. 

The deadline for your payments on account will be on the following dates: 

• 31st January – the deadline for submitting your self-assessment tax return. When you do this return, you need to pay any outstanding balance from last year (balancing payment) and pay your first ‘payment on account’ for next year’s estimated bill. 
• 31st July – the mid-year deadline for when you’ll need to pay your second payment on account towards next year’s bill. 

Who doesn’t need to make payments on account?

If you pay tax through self-assessment, you must make payments on account, unless you either earned less than £1000 in the previous tax year or you’ve paid more than 80% of your tax through PAYE. 

What happens if I’m late with my payments on account?

Payment on account is not something that is widely known about among people who have never been part of the self-assessment system. And if you’ve been expecting a tax bill of, say, £10,000, having to find an extra £5,000 to cover your first payment on account may simply be impossible.

If you can’t pay the whole tax bill by 31st January, you will be facing interest charges on the outstanding amount. You should get in touch with HMRC as soon as possible to try to arrange a ‘Time-to-Pay’ agreement.

How can I reduce my payments on account?

The size of the payment on account is based on your tax bill for the previous tax year. HMRC assumes that you will continue to earn at the same rate and, therefore, you’ll pay roughly the same amount of tax in the following year.

If you’re going into full-time work or expect most of your earnings to be taxed at source, you might be able to reduce your payment on account. But if you reduce the payment and then end up underpaying tax as a result, HMRC can charge you interest and possibly penalties on the sum involved. Your accountant will be able to advise on the best course of action.

Once you’re over the initial hurdle, payments on account simply spread your tax bill across the year and can make it easier to budget.

Ultimately, it highlights the importance of putting aside enough money for your tax bill and also the value of filing your self-assessment tax return as early as possible – especially if you’re newly self-employed – to avoid any nasty January surprises.

We take the pain out of self-assessments!

Here at Kennedys Accounting you can trust us to make your self-assessment as worry-free as it can be. Our expert team will take care of you for a one-off fee.