Payment on Account Guide For UK Taxpayers
Clarified Accounting Ltd
January 19, 2025
One area that small business owners or high earners with a self assessment tax return typically have queries on, is the Payment on Account. It shocks many especially first timers when filling their self assessment tax returns. This blog, guides you on what Payment on Account is, how it works, balancing payment and refunds, with an example to help you.
What is Payment on Account?
Payment on Account is used by HMRC to collect income tax in advance. It is designed to help spread the cost of your tax liability throughout the year, rather than facing a huge bill at the end of the tax year.
It applies to those who file self-assessment tax returns and:
- Have a tax bill exceeding £1,000 after PAYE or other tax deductions
- Pay most of their tax bill through self assessment.
How Does Payment on Account Work?
Payment on Account is determined by your projected earnings (based on the amount you made in the prior year). In a nutshell, you pay an estimate of your tax bill for the following year in two instalments which are owed on 31 January and 31 July. Each installment is fifty percent of your prior year tax bill. So, if your tax liability for the 2023/24 tax year was £10,000, HMRC would be expecting two payments of £5,000 each for the 2024/25 tax year.
For those who are self-employed, Payment on Account incorporates Class 4 National Insurance Contributions.
If you anticipate earning less in the current tax year than in the previous one, you can make a claim to reduce your Payment on Account. However, it’s important to estimate your income carefully. If you reduce your payment too much, HMRC may charge interest on the shortfall.
Don’t panic if you cannot afford the payments. You can contact HMRC to spread the payments through the Time to Pay Arrangement.
Balancing Payment
Remember, Payments on Account are estimated payments towards your next tax bill. Therefore, the actual tax you owe may be higher. When this happens, it results in a Balancing Payment which is determined by deducting the Payments on Account you have made from the total tax you owe.
The deadline for making a Balancing Payment is 31 January the following year.
How Do Refunds Work
If you have overpaid on your Payment on Account due to earning less than expected, HMRC will issue a refund once your tax return is processed. This refund can be received via bank transfer or by cheque. To speed up the process, ensure your tax return is submitted promptly and your bank details are up to date in your HMRC account.
Example: Payment on Account in Action
Let’s break this down with an example.
- Previous Year’s Tax Bill: £8,000 for 2022/23 tax year.
- Payment on Account: HMRC expects two instalments of £4,000 for the 2023/24 tax year.
- Actual Income Drops: You estimate your income for 2023/24 will result in a tax bill of only £5,000.
- Reducing Payments: You can apply to reduce your Payment on Account to two instalments of £2,500. This reflects your estimated tax bill.
- Filing a Tax Return: When you file your 2023/24 tax return, your final tax liability is confirmed as £5,000. Since you’ve already paid £5,000 (£2,500 x 2), you owe nothing further.
- Balancing Payment Scenario: If you initially paid the full £4,000 instalments but your tax bill is confirmed as £9,000, you will need to make the balancing payment of £1,000 by 31 January 2025
- Overpayment Scenario: If you initially paid the full £4,000 instalments but your tax bill is confirmed as £6,000, HMRC will refund the overpayment of £2,000.
Why Payment on Account Matters
Managing your Payment on Account effectively can ease cash flow pressures and prevent overpayment. By regularly putting money aside for your tax bill, filing your tax return on time and carefully estimating your income; you can avoid unnecessary financial strain and potential penalties.
Need Help Managing Your Payments?
If you’re unsure how to reduce your Payment on Account or want assistance with your tax return, our team is here to help. We provide tailored advice for UK small business owners and high earners. Contact us today to help you stay tax-efficient and compliant.
Disclaimer: This blog post is for informational purposes only and does not constitute tax advice. A simplified example has been used. The actual process may vary depending on individual circumstances. Please consult with a qualified tax professional for personalised guidance.
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