What are payments on account? And who has to make them?
So many business owners get caught out by payments on account, particularly in their first year of trading.
When you become self employed, most of, if not all of your income will not have tax deducted from it at source, and you will need to file a self assessment return for your income tax.
If you started in business in June 2022, then the personal tax year you need to report on is 22/23 which ends 5th April 2023, and you do not need to file or pay your tax for that period until 31st January 2024. That sounds great, right? Well, yes and no.
Although it gives you longer before you have to pay your tax, it means you have to be disciplined enough to put money aside throughout that period to cover the bill, and you will also have to make payments on account. When you pay your tax bill on 31st January 2024 for 22/23, you will also have to pay half of your expected tax bill for 23/24 at the same time, and a second payment of the same amount of 31st July 2024.
So if your tax bill for 22/23 is £10k, on 31st January 2024 you will have to pay £15k – the tax bill plus half of the expected next year bill, plus another £5k on 31st July 2024. It’s basically a PAYE scheme for the self employed, but this quirk often catches out business owners who have to find a large amount of money they were not expecting to pay out.
You won’t have to make payments on account for the next year if your self-assessment tax bill is £1,000 or less, or if 80% of your income in already taxed through the PAYE system and has tax deducted from it before being passed to you.
HMRC assume that you will continue to earn at the levels you have reported to them and therefore expect to collect the equivalent amount of tax in the next tax year. If your results end up being better than the previous year then payments on account will not increase in the current year, but you will have a larger balance to pay off at 31st January the following year.
If you are expecting your income for the next year to be less than the one you just reported on, then you can request HMRC to reduce the payments on account to be more in line with your expected final tax bill.
Don’t get caught out by payments on account so make sure you have spoken to your accountant if you are unsure.