Many business owners are baffled by HMRC letters demanding payments that they were not aware of for an amount called ”payment on account”. Has this happened to you ? If you thought filing your self-assessment tax return in time is it and then you don’t have to waste another sleepless night over it for at least another year, you may be in for a big surprise when HMRC demands a payment on account by the end of July. So what does payment on account mean ??
So… filing the tax return is one thing… but what about paying it ?!
Or you may be one of those business owners that files their self-assessment tax return very soon after the tax year ends on each 5th of April, then hurries to pay their taxes right away and so be rid of it for peace of mind. Well, isn’t it kind of annoying enough that you have to pay the tax, but have you considered that paying your tax to HMRC early could be costing you a good few extra pounds ?
What?! Paying HMRC very early can cost me more ? How?! I had no idea about this?! Well, we may have been a little over-dramatic, but… it’s not costing you in the sense that you have to pay more, but in the sense that you are missing out on potentially 9 months’ worth of interest or other income that this tax amount could be generating for you! Keeping this money in a Savings Account, an ISA account or even investing in Premium Bonds will ensure that you are stretching your money as far as you can for as long as you can.
So, let’s get on with this issue of paying taxes and unpack the whole issue piece by piece, to find out what payment on account means and how you should go about it.
When is the deadline to file my self-assessment tax return ?
To take this a few steps back, when you start working for yourself as a sole trader, one of the initial benefits is that you don’t have to pay tax as money comes in, which was the case when you were employed and paid taxes via the PAYE system every time you got paid.
So, as a self-employed sole trader, you have to submit your self-assessment tax return to HMRC once a year at the latest on the 31st of January. This is also the deadline to pay taxes for this financial year for which you are submitting your self-assessment tax return. (It is highly advisable therefore that you get your self-assessment done and submitted way before this deadline, so that you won’t any get surprise tax bills due immediately).
The tax year for self-employed business owners runs from the 6th of April in the current year to the 5th of April next year. This means that your first tax bill is due on the 31st January that falls after the end of your first tax year. For example, if you started as a sole trader in August 2023, you wouldn’t have to pay tax until the self-assessment deadline for the 2023/24 tax year, which is 31st January 2025.
Do I have to submit a self-assessment tax return if I am the director of a company ?
In short, yes, you do. Self-assessment affects limited company directors too. Although they usually pay themselves a salary which has any tax due taken via PAYE, they also have to submit an annual self-assessment tax return to declare all the income they receive through dividends from their own company or from other sources.
What does payment on account mean ?
A payment on account is an advance payment you make twice a year towards your self-assessment tax bill. This is because HMRC estimate how much tax you owe for the upcoming year based on your previous year’s tax bill. You pay this estimate over two instalment dates so that you would find it easier to pay your tax bill rather than be hit with one lump sum on the 31st of January.
In other words, HMRC implemented this process to help taxpayers stay on top of their payments as well as avoid paying tax in arrears.
The payment on account amount is calculated as half of your full tax bill for the previous tax year. This means that if your tax bill was £2000 for the tax year ended on 5th of April 2022, then you will have to pay £1000 as payment on account by the 31st of July 2023 towards your tax bill due on 31st of January 2024 for the tax year ended on 5th of April 2023.
Your actual tax bill won’t necessarily match the estimate, as business income generally fluctuates from year to year. So if your payments on account don’t cover your total tax bill for the year, you must make an additional ‘balancing payment’ by the 31st of January.
Please note that payments on account include Class 4 National Insurance Contributions where applicable, but not student loan repayments or Capital Gains Tax.
The two deadlines for paying your self-assessment tax bill are:
- Midnight on 31st of January (the same date your self-assessment tax return is due) for any tax you owe for the previous tax year (a balancing payment) as well as your first payment on account for the upcoming tax year.
- Midnight 31st of July for your second payment on account for the upcoming tax year.
As a self-assessment taxpayer, you arere required to make payments on account to HMRC unless you fall under one of the following two categories:
- Your last Self Assessment tax bill was less than £1,000.
- 80% or more of your tax was deducted at source through PAYE.
What happens if I am late with a payment on account ?
Please don’t forget to set yourself a reminder mid-January (and mid-July if applicable) to get the money out and pay the tax over though, otherwise it will totally defeat the point!
Of course, a good accountant should be sending you deadline & payment reminders, to make sure you are always on the good side of HMRC.
Payment on account is not something that is widely known about among people who have just started as sole traders. And if you’ve been expecting a tax bill of, say, £10,000, having to find an extra £5,000 to cover your first payment on account may simply be impossible.
If you cannot pay your tax bill by the 31st of January, you are likely to face interest charges on the outstanding amount. You should get in touch with HMRC as soon as possible to try to arrange a ‘Time-to-Pay’ agreement.
A good accountant will advice you about the importance of saving regularly towards your tax bill, so that it won’t hit you unexpectedly. They will also advice you about the value of filing your self-assessment tax return as early as possible – especially if you’re newly self-employed – to avoid any unpleasant January surprises.
How does the payment on account actually work ?
To give you an example of how a payment on account works, let’s say you became self-employed in May 2020 and completed your first self-assessment tax return for the 2020/21 tax year.
- Once you completed your return, HMRC calculated you owed £500 tax for the year, due by 31 January 2022. Your tax bill was under the £1,000 threshold, so you weren’t required to make payments on account for the following tax year.
- During the following tax year (2021/22), you recorded higher profits and your bill for the 2021/22 tax year came to £2,000.
- Because this is above the threshold, the payment on account process was triggered for the 2022/23 tax year.
- Therefore, in addition to the £2,000 tax payment owed for the 2021/22 tax year, your tax bill also included your first payment on account for the 2022/23 tax year of £1,000 (half your 2021/22 tax bill).
- So you paid a total of £3,000 on 31 January 2023.
- Your second payment on account of £1,000 for the 2022/23 tax year was made on 31 July 2023.
- Now, in total, you have paid £2,000 towards your 2022/23 tax bill.
- When you submit your Self Assessment tax return for the 2022/23 year, and your tax bill comes to £1,800, for example, you’ll be owed a refund of £200 (the difference between the £2,000 you have paid on account and your actual tax bill).
- In this case, your next payment on account for the following tax year, due 31 January 2024, would be £900 (half of your 2022/23 tax bill).
How can LAS Accounting help ?
LAS Accounting Ltd can help you with each and every one of your accounting needs, saving you time and money to focus on doing what you do best – running and growing your business. We can also help you understand your business finances, monitor your cash balances, plan for future tax liabilities and pinpoint trends to help support important business decisions.
Remember: the path to success is paved in tiny but meaningful steps. If you’d like help with your self-assessment tax return, now may be the ideal time to engage the services of an accountant to do all the work for you and provide you with all the accounting advice you need.
Don’t hesitate to get in touch for any further enquiries at: email@example.com