Your first Self Assessment bill can feel larger than you expected, even when you have estimated your tax correctly. The reason may be payments on account: advance payments towards your next tax year. Understanding the difference between the bill for the year just ended and the amount due towards the next one makes it much easier to plan.
What are payments on account?
Payments on account are usually two advance instalments towards your next Self Assessment bill. Each is normally based on half of the previous year’s Income Tax and Class 4 National Insurance liability. HMRC normally asks for them when the relevant tax due is at least £1,000, unless more than 80% of the tax was already collected at source.
The first instalment is normally due on 31 January and the second on 31 July. Any difference between what you paid in advance and the final bill is dealt with through a balancing payment or refund after you file the return.
Why the first bill can be surprising
Imagine your tax bill for one year is £4,000 and you have not previously made payments on account. On 31 January, you may need to pay that £4,000 plus a first payment on account of £2,000. A second £2,000 payment may then fall due on 31 July. The January amount is therefore £6,000, although only £4,000 relates to the completed tax year.
This is an illustration, not a forecast of your own bill. Your tax return, other income and tax already deducted can change the calculation. The important point is to look at the statement in parts: balancing payment, first payment on account and second payment on account.
What if next year’s income will be lower?
If you have a reasonable basis to expect a lower bill, you can ask HMRC to reduce your payments on account. Do not reduce them simply because the instalments feel uncomfortable. If the reduction turns out to be too large, interest may be charged on the shortfall. An accountant can help you estimate the next year’s likely liability before you make a claim.
How to prepare for payments on account
Keep a separate tax reserve, update it when your profit changes and check the amount shown in your HMRC account after filing. If your income is uneven, review the reserve more often rather than relying on last year’s figures. Filing early gives you more time to see the January and July amounts and adjust your cash plan.
HMRC’s payments on account guidance explains the rules and payment dates. AA&R Certified Accountants can help you understand your statement and plan ahead. Contact our team if you would like a clear review of your position.
Related reading: Self-Assessment Tax Return Checklist for Sole Traders.