It used to be the case that self-employed people would pay their entire tax bill in one go after submitting a self-assessment tax return annually, due on January 31st for the previous tax year. This is still the case for the first year that someone submits their self-assessment.
In order to spread this cost somewhat so that it doesn’t all fall on one date, and to try and avoid self-employed people not having enough set aside to pay the tax that is due in one go, payments on account were introduced by HMRC.
What are payments on account?
Tax payments on account are payments that self-employed person needs to make twice a year IN ADVANCE of their upcoming tax year. The idea is that the amount estimated for the two payments on account will cover the tax and national insurance payments owed over a 12-month period, so that there is more or less nothing left to pay once that tax year’s self-assessment is submitted.
Payments on account essentially mean that you pay tax in advance rather than in arrears, on what HMRC expects that your business will make in profits during a tax year.
The two deadlines for payments on account via self-assessment are:
Midnight on 31st January (the same date that your latest self-assessment tax return is due), at which time you will need to pay any tax you still owe from the previous tax year (known as a balancing payment) and your first payment on account for the coming tax year.
Midnight on 31st July for the second payment on account for the coming tax year.
Do all self-employed people have to make payments on account?
If you are a self-assessment taxpayer, you’re obliged to make payments on account to HMRC unless you are exempt. You may be exempt from having to make payments on account if:
- Your previous self-assessment tax bill came to less than £1,000.
- At least 80% of your tax was deducted at source through PAYE (which may be the case if you are both employed and self-employed at the same time).
How are payments on account estimated by HMRC?
HMRC calculates your payments on account by assuming that you will make exactly the same amount of profit as you did the previous tax year. They split the total into two equal payments, due six months apart.
Examples of payments on account
Viewing an example of payments on account in action can sometimes help to make how it all works a bit clearer.
If, for example, you became self-employed on 1st July 2021, so during the 2021/22 tax year, your first self-assessment return would have been due between 6th April 2022 and 31st January 2023 (the earliest and latest dates you can submit your return).
When submitting your first tax return, HMRC calculate how much tax and National Insurance you owe for that first period of trading (1st July 2021 to 5th April 2022), which needs to be paid by 31st January 2023. Then they also use this figure to calculate your payments on account, which will be due on 31st January 2023 and 31st July 2023.
In our example, if HMRC calculated that you owed £4,000 in tax and national insurance for the 21/22 tax year, your two payments on account would be £2,000 each.
That means by 31st January 2023, you would need to pay £6,000 (your balancing payment and the first payment on account) then the remaining £2,000 by 31st July 2023.
This means that when your 2022/23 self-assessment return is completed, you have already paid £4,000 of any tax and National Insurance that is due.
If your 2022/23 tax bill is lower than £4,000, HMRC will refund the difference.
If your calculation is above £4,000, you will need to make a balancing payment by 31st January 2024 to cover this, along with the first payment on account for the next tax year.
Your payments on account for the following tax year may change, depending on your 2022/23 tax calculation. If your tax calculation was exactly £4,000 again, they won’t change, but otherwise they will be adjusted to each be 50% of the tax due in 22/23.
For example, if your profit went up in the 2022/23 tax year, compared with the previous self-assessment period, and HMRC calculated that you are due to pay £5,500 instead of the £4,000 estimated, your next payments on account will increase.
- Due by 31st Jan 2024 will be a £1,500 balancing payment, and a new payment on account for £2,750.
- Due by 31st July 2024 will be your next payment on account for £2,750.
Can you reduce your payments on account?
Most people who are self-employed are likely to see some fluctuations in their income, so the likelihood of one year’s profit being exactly the same as the next is small. If you expect that your profit for the next tax year will be lower, you can avoid overpaying with your payments on account by asking HMRC to reduce them.
However, this is not something to do lightly, because if you reduce it by too much, and end up underpaying as a result, HMRC will charge interest on the difference. This means that you’ll not only have to pay the balance, you’ll also have to pay interest charges on it.
If you know that your profit for the current tax year will be significantly lower than in the previous one, you can choose to reduce your payments on account somewhat, but still leave some headroom, so that you don’t underpay.
If you expect to make more profit in the current tax year than the previous one, you cannot increase your payments on account, so be sure to set aside enough to cover your balancing payment in the meantime.
Getting a tax refund if your payments on account were too high
If the payments on account that you make in any given tax year end up being higher than the actual tax bill once your self-assessment return is submitted, you can claim a refund for the difference, or put the funds towards your next payment on account.
Further assistance with tax payments on account
Navigating the world of tax when you’re self-employed can be daunting and the consequences of getting things wrong with HMRC can be serious. If you would like some assistance with your self-assessment tax returns, payments on account or have any other business tax questions, we can help and free up your time to focus on making your business as successful as it can be. Get in touch to find out more.