Tax interim payments on account – a simple guide?

Those making payments on account for the first time on 31 January may be confused by the system. I hope that the explanation below is simple – but questions and suggestions are welcome:

A summary

Employment taxes collect most of your tax immediately. The tax on other sources of income (eg self employment) can take many months to collect, so the system attempts to collect it by using estimates. The first interim payment may seem to to be doubling up on your tax or paying in advance but you are actually still paying slightly in arrears.

A bit more detail

  1. If you are employed and suffer tax at source under Pay As You Earn (“PAYE”), you are paying tax immediately – an amount earned in May 2018 is taxed in May 2018;
  2. If you have non-employment income (rents, investment income, self employed income) the delay before paying tax can be many months – the tax on an amount earned in May 2018 would not be paid until 31 January 2020 (20 months later);
  3. The interim payments on account system attempts to reduce that delay, if that source of income is regular;
  4. In the first year of assessment, as well as collecting tax for that year, it also collects an estimate for the current year;
  5. Half of that estimate is payable on 31 January and half on 31 July;
  6. If the tax due on the income source is £6,000 for the year, as well as paying that on 31 January 2019, you also pay an extra £3,000 on that date and another £3,000 on 31 July;
  7. The first time that happens, that may feel as if you are paying a lot of tax on the income, perhaps double the amount or even paying in advance (you are not!);
  8. By the time of that interim payment on 31 January 2019, you will have earned income from that source in the year to 5 April 2018 and also for most of the year to 5 April 2019;
  9. In doing so, you will (I hope) have budgeted for tax as it is earned;
  10. If your income, tax rates and allowances stayed exactly the same year on year the tax  payments would then settle down (eg £3,000 twice a year covering your liability in full);
  11. Instead, if things change, you will have a balancing payment on 31 January or repayment adjustment each 31 January;
  12. The tax on the income source for the year to 5 April 2019 is being paid half (estimated) on 31 January 2019 (during the year), half on 31 July 2019 (slightly after the year) and a balancing payment or repayment on 31 January 2020 (several months later);
  13. If your source of income rises each year, you will be paying slightly in arrears compared to someone taxed under PAYE. If your source of such income drops or ceases you should consider reducing your payments on account (but speak to your tax adviser first);
  14. Ask your adviser how to budget for your tax payments.

(To keep this simple, I’ve ignored some of the other complexities that arise, eg accounting periods for the self employed and the “80% test”.)

 

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