Managing your taxes as a small business owner can feel overwhelming, especially when dealing with payments on account. In this guide, we’ll explain what payments on account are, address common questions, and help you understand this important part of tax management.
What are payments on account?
Payments on account are advance payments towards your self-assessment tax bill. Essentially, they’re a way for HM Revenue & Customs (HMRC) to ensure that self-employed individuals are contributing towards their taxes throughout the year, rather than facing a hefty bill all at once. These payments help spread out the financial burden and promote better budgeting for tax liabilities.
how do payments on account work?
Payments on account operate on the principle of making tax payments in advance based on your previous year’s tax bill. HMRC estimates your future income based on your past earnings, then divides the total amount into two instalments, due in January and July respectively. This method allows for a more predictable tax payment schedule and helps individuals manage their cash flow more effectively.
How Are Payments on Account Calculated?
The calculation for working out payments on account is relatively straightforward. HMRC takes your previous year’s tax bill and divides it into two equal instalments. For example, if your tax bill for the previous year was £20,000, you would make two payments on account of £10,000 each. These payments are due in January and July, respectively, allowing for a spread-out payment schedule.
When Are Payments on Account Due?
Knowing the deadlines for when to pay your tax bill are essential to avoid penalties. The first instalment is due by midnight on January 31st, coinciding with the deadline for submitting your self-assessment tax return. The second instalment follows, due by midnight on July 31st. It’s important to note these dates and any possible extensions available to ensure timely payment and compliance with HMRC regulations.
Can Payments on Account Be Adjusted?
If your income or expenses change significantly during the year, you might need to adjust your tax payments. You can ask HMRC to update the amount you owe to better match your current financial situation. This helps ensure you’re paying the right amount of tax based on your current earnings and expenses, improving your cash flow management.
For example, if you had a high income one year but expect much lower earnings the next, you can request HMRC to reduce your payments on account. However, be careful not to reduce them too much, as underpaying can lead to interest and penalties. If your payments exceed your tax bill, HMRC will refund the overpayment. Note that capital gains and student loans are not included in these adjustments and are covered in your balancing payment.
What Happens if Payments on Account Are Too High?
Overpayment of taxes can strain cash flow for small businesses. If your payments on account turn out to be higher than your actual tax liability, you can reclaim the overpaid amount from HMRC. The process for reclaiming overpaid amounts typically involves filing a claim, and refunds are issued promptly once approved.
What Happens if Payments on Account Are Too low?
Underestimating tax liabilities can lead to penalties and interest charges. If you find that your payments on account are too low to cover your tax bill, it’s crucial to rectify the situation quickly. You may need to make additional payments or adjust your future payments to avoid penalties and ensure compliance with HMRC regulations.
What Are Second Payments on Account?
The second payment on account is the second instalment of payments made towards your tax bill. These payments occur annually, with the second instalment due by 31 July, following the end of the tax year. They are to further spread out the financial burden of your tax bill and promote better financial planning.
How Do Second Payments on Account Differ from the First?
The second payment on account differs from the first in several ways. While both payments are based on the previous year’s tax bill, the second payment may require adjustments based on any changes in income or expenses throughout the year. Additionally, the due date for the second payment allows for planning based on the current year’s financial performance.
Are There Any Exemptions or Special Circumstances?
Certain situations, such as a significant drop in income, might warrant exceptions to the standard payments on account requirements. If you believe you qualify for any exemptions or relief, it’s essential to consult with HMRC or a tax professional to ensure compliance with regulations and take advantage of any available benefits.
Being tax efficient is a process that starts with your tax return. So why should you submit your return early?
1. REFUNDS
Filing your tax return early (before the 31 January deadline) will mean you should receive any tax refund you may be due, soon after submission. In instances where you think you have overpaid tax, be sure to get your return in as promptly and early as possible. That way you can obtain your refund sooner.
2. PAYMENT AND CASH PLANNING
Filing your tax return results in a tax liability calculation. This presents you with the total tax bill you owe to HMRC. Doing so earlier means you can plan. That way you can give yourself more time to set money aside for payment. This allows you to better manage your cash flow and finances.
Also, if your tax liability comes in under £3,000 and you submit your tax return in December, then you have the option of your tax liability being paid through your tax code. It will be deducted from your wages or pension at whatever interval arrangement you have set up (weekly or monthly).
3. TAX PLANNING TO REDUCE PAYMENTS ON ACCOUNT
Your income might vary markedly from one year to the next. Whether a significant increase due to a dividend payment or, a steep decline as a result of trading losses, early submission provides more time for tax planning.
That means you (and/or your advisor) have sufficient time to assess your circumstances. You can then assess where you might be paying more tax than you legally should be. Savings might then be achievable.
4. ERRORS AND DEALING WITH HMRC
Rushing your tax return in just before the deadline is risky. It’s more likely to lead to errors. There’s likely to be less time for checking the accuracy of what is stated compared to your income streams. You’ll need time to assemble financial documents and bank statements to fill in your return properly. If HMRC uncover errors you’ll be subject to penalties.
5. YOUR TAX ADVISOR/ACCOUNTANT
Your accountant will likely deal with a lot of tax returns on behalf of their clients. Especially in January! If you provide your information close to the deadline then you could end up rushing when collating information and missing out key items from the data you supply. The risk then is a late filing. A situation your accountant might not be able to avoid.
Where Can I Find More Information or Assistance?
If you’re uncertain about payments on account or second payments on account, there are resources available to provide guidance and assistance. HMRC’s website offers detailed information and guidance on tax obligations, while seeking assistance from a tax professional like us, can provide personalised advice tailored to your specific circumstances.
Navigating payments on account can seem complex, but with a clear understanding of the process and deadlines, you can effectively manage your tax obligations and ensure compliance with HMRC regulations. By staying informed and proactive, you can navigate tax season with confidence and peace of mind.
Need help or advice on your payments on account? Book in a call with Lucy below, at a time that suits you.
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