When it comes to managing your taxes in the UK, understanding Payment on Account is crucial for anyone who is self-employed or receives income that isn’t taxed at source. This system, put in place by HMRC, ensures that you stay on top of your tax obligations by making advanced payments towards your future tax bill.
While it can seem confusing at first, knowing how Payment on Account works can save you from surprise bills and help you plan your finances better.
In this blog, we’ll explain everything you need to know about Payment on Account, how it’s calculated, and how to manage it effectively.
Payment on Account is a system used by HMRC in the UK to help individuals who are self-employed or have additional income streams to stay on top of their tax obligations.
Rather than waiting until the end of the tax year to pay your entire tax bill, HMRC requires you to make advanced payments based on your previous year’s tax return. These payments are made twice a year and cover your tax liability for the current tax year.
This system ensures that individuals who do not have taxes automatically deducted from their income can manage their payments throughout the year, reducing the risk of facing a large, unexpected tax bill.
Payment on Account involves making advance payments towards your annual tax bill based on your previous year’s tax return. HMRC requires two installments: one by 31st January, which is typically 50% of your previous year’s tax bill, and a second by 31st July, which covers the remaining 50%.
This helps to spread the payments over the year and ensure the taxpayer is not faced with a large, unexpected payment in one go. However, if your income increases, you may also need to make a balancing payment to cover the difference between the estimated payments and your actual tax liability.
For example, if your tax liability increases from £50,000 to £70,000, an additional £20,000 balancing payment will be required by the following January.
A balancing payment is the amount you owe after your advance payments have been made. It comes into play when your tax liability increases beyond what was predicted in your advance payments.
If your total tax due exceeds the sum of your payments on account, you will need to settle the outstanding amount through a balancing payment by 31st January in the following year.
For instance, if your total tax due for 2024/25 is £70,000, but you’ve only paid £50,000 in instalments, you will need to make a balancing payment of £20,000 by 31st January 2026 to settle the outstanding amount.
If you anticipate that your income will decrease in the current tax year, you may be eligible to reduce your Payment on Account. You can request this by contacting HMRC and providing evidence of the anticipated reduction in income.
However, be cautious: reducing your payments too much can result in penalties and interest if your final tax bill turns out to be higher than expected.
It’s important to strike a balance and ensure that your payments remain in line with your actual income for the year.
Calculating Payment on Account is relatively straightforward once you understand the system. HMRC bases your Payment on Account your previous year’s tax bill, with each installment representing 50% of the total amount owed.
If your tax bill for the 2023/24 tax year was £50,000, you would need to make two payments of £25,000 each – one by 31st January 2025 and the other by 31st July 2025.
If your tax liability increases in the following year, say to £70,000 for the 2024/25 tax year, you will still make the two payments of £25,000, but you’ll be required to pay a balancing payment of £20,000 by 31st January 2026 to cover the difference.
It’s essential to monitor your earnings throughout the year to ensure your Payment on Account reflects your current tax liability and avoid any surprises when it comes to settling your final balance.
Paying your self-assessment tax bill is straightforward, and several methods are available. HMRC provides different options to suit your preferences and ensure timely payment.
Here’s how you can pay:
Ensure payments are made by the deadlines to avoid any interest or penalties from HMRC. Excel Accounting and Taxation offers comprehensive support in HMRC Management, ensuring your business stays compliant with tax obligations while streamlining the process of handling self-assessment tax bills.
Getting your tax return done early comes with several advantages, both for your peace of mind and financial well-being. Filing early gives you more time to organise your finances and plan for any upcoming payments, avoiding the last-minute rush that can lead to errors or missed deadlines.
You also gain clarity on how much tax you owe, which allows you to budget effectively or even set up a payment plan with HMRC if needed. Additionally, filing early can result in faster tax refunds if you’re due any repayments, providing you with extra cash flow sooner.
By managing your tax return early, you reduce the risk of penalties, reduce stress, and ensure you’re fully prepared for the year ahead.
Failing to pay your Payment on Account can lead to several financial consequences. HMRC will charge interest on any late payments, which start accruing the day after the payment deadline.
Additionally, if the payment remains outstanding for too long, you may incur penalties that can further increase your tax liability. Ignoring your Payment on Account obligations could also result in enforcement action, such as HMRC taking funds directly from your bank account or even instigating legal proceedings.
It’s crucial to stay on top of these payments to avoid spiralling costs and added stress. If you’re struggling to pay, it’s always advisable to contact HMRC early to discuss potential payment arrangements and avoid harsher penalties.
Payment on Account is an essential system for those who are self-employed or have untaxed income, helping to spread the burden of tax payments across the year. By understanding what Payment on Account is and how it works, you can better manage your finances, avoid unexpected bills, and stay compliant with HMRC. Planning ahead and making payments on time ensures that you remain in control of your tax obligations while also minimising the risk of penalties or interest charges.
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