Dealing with taxes can sometimes feel confusing, especially when you encounter terms you have never heard before. If you are self-employed, you might wonder: what are payments on account? This system is simply a way of spreading your tax costs across the year instead of paying a large lump sum all at once. By understanding how this works, you can manage your money better and avoid any unexpected surprises when it is time to pay your bill.
What Are Payments on Account?
Payments on account are advance payments towards your tax bill. HMRC designed this system to help self-employed people stay on top of what they owe. Instead of paying everything in one go at the deadline, you make two payments on account during the year. These payments towards your next tax bill are calculated based on your previous year’s tax bill. Each payment is half of that previous amount. It is like a prepayment system to stop debt from building up.
Who Has to Make Payments on Account?
Not everyone has to worry about this. You usually need to make payments on account if your self assessment tax bill was more than £1,000. However, there are exceptions. You won’t need to make these payments if more than 80% of your tax was already taken off, for example, through your tax code or by your employer. If your total tax to pay is very low, you might also be exempt. Always check if you are required to make payments on account towards your future liabilities.
When Does it Need to be Paid?
Timing is very important when handling taxes. You need to make two payments on account every year. You make your first payment on account by midnight on 31 January. This is the same day you submit your self assessment tax return and pay any balancing payment for the previous year. The second payment is due by midnight on 31 July. If you miss these dates, you might face late payment penalties or interest charges on the tax you owe.
How to Reduce Payments on Account
Sometimes, you might know that your income is going to be lower than the previous year. In this case, your payments on account towards the next tax year might be too high. You can ask HMRC to reduce your payments if you believe your tax liability will go down. This often happens if you have lost clients or your business profits have dipped. You don’t want to overpay and wait for a refund later, so it is smart to adjust the amount you need to pay.
How to Request a Reduction
If you are sure your income has dropped, you can apply to reduce your payments. You can do this online when you submit your tax return or by logging into your account later. You simply select the option to “reduce payments on account” and give a valid reason. Be careful, though. If you reduce them too much and end up owing more tax than you’ve paid, HMRC will charge you interest. Make sure your calculation for payments on account is accurate before submitting.
What Happens If You Overestimate or Underestimate?
Getting the numbers wrong can cause a few headaches. If you overestimate your income and pay too much on account, HMRC will refund the difference after you submit your self assessment tax return for that year. However, if you reduce your payments on account by too much and underpay, you will have to pay interest on the unpaid tax. It is crucial to check your payments on account carefully. If you owe for capital gains tax, remember that payments on account don’t cover this specific charge.
When You Should Consider Reducing Your Payments on Account
You should think about reducing your payments if your circumstances change significantly. For instance, if you decide to stop trading or take a long break from work, your tax bill will be lower. Maybe you lost a major contract, meaning your profits will drop. In these cases, there is no need to make payments based on higher earnings from before. Adjusting your advance payment ensures you keep more cash in your business right now instead of waiting for HMRC to return it.
FAQs
What if I cannot afford to pay my tax bill?
If you cannot pay tax on time, contact HMRC immediately. You might be able to set up a “Time to Pay” arrangement. This lets you spread the cost of your self assessment tax bill over manageable monthly instalments. Don’t ignore the problem, as penalties will grow. It is better to communicate early and agree on a plan for the tax you owe rather than doing nothing.
What triggers HMRC payment on account?
The main trigger is having a self assessment tax bill of over £1,000 for the tax year. Unless you have already paid more than 80% of your tax deducted at source, you will automatically fall into the system. Once triggered, you’ll need to pay the first instalment in January. This ensures your payment on account work is done in advance to cover the tax for the year.
Do payments on an account include CGT?
No, payments on account don’t cover Capital Gains Tax. They only go towards your income tax and Class 4 National Insurance. If you have sold an asset and owe Capital Gains Tax, this must be paid as part of your balancing payment in January. You will need to account for this separately when you calculate your total tax bill to ensure everything is paid correctly and on time.
How much money can you transfer before you get flagged?
Banks monitor large transfers, often over £10,000, to prevent fraud. However, for tax purposes, there isn’t a specific transfer limit that flags you instantly. HMRC is more interested in unexplained income on your tax returns. If you transfer large sums that look like income but haven’t been declared, that might raise questions. Always ensure your account work is transparent and matches the figures on your self assessment forms.
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