The Payments on Account system for Self Assessment
Many people find this system confusing, often thinking they are being asked to pay tax in advance. In fact, it is perfectly reasonable with proper safeguards but the following explanations may help to understand it:
What puts someone in the Payments on Account system?
You have to go into the system if your net self assessment liability (after allowing for any tax deducted at source) is over £1,000.
But this doesn't apply if the self assessment liability is less than 20% of your total liability (i.e. including PAYE and any other tax deducted at source).
How are the payments calculated?
Starting from year 1 (i.e. any tax year ending 5th April, whichever that year may be), the system 'assumes' that the net liability in year 2 is the same as in year 1 until the true liability for year 2 is known.
The system demands 50% of the year 1 liability 'on account' for year 2 to be paid in each of the January and July following the year 1 year-end (5th April).
The net liability for the year ending 5th April 2023 is £1,500.
The amounts payable on account the year ending 5th April 2024 are £750 each in January and July 2024.
So I am paying the January 2024 payment in advance, aren't I?
No. By January 2024 you are already nine months through the year in which the 2023/2024 liability is being generated; so in fact you are paying six months-worth of tax having had nine months-worth of the income that is generating it.
Entering the system for the first time
In the above example, if the year ending 5th April 2023 is the first year of self assessment (or of the liability exceeding £1,000) the payment due in January 2024 would be £1,500 to settle 2022/2023 plus £750 on account for 2023/2024; then £750 in July 2024.
This is a one-off effect. If by some magic every future year's liability is £1,500, then the subsequent payments would be £750 each January and July ad infinitum.
How are the payments on account corrected once the true liability is known?
It depends on when the year 2 calculations have been completed.
Clearly it is impossible to know the year 2 liability until after the January payment on account (because the end of year 2 is not until the next 5th April), but see later if by that time you already know the liability will be less.
If the year 2 liability is calculated and the self assessment submitted before the July payment falls due, there are two possible outcomes:
1 If the true liability is less than year 1, the January payment on account already paid is deducted and the difference paid in the July payment, which will of course be lower than the previously-calculated on account payment.
2 If the true liability is more than year one, there is no obligation to make a higher payment on account in July and the difference is collected the following January.
If the year 2 liability is calculated and the self assessment submitted after the July payment has been paid, there are also two possible outcomes:
1 If the true liability is less than year 1, the payments on account will be too high and either the excess can be carried forward to credit the next year's payment on account in the following January or it can be refunded.
2 If the true liability is more than year 1, the shortfall is paid with the following year's payment on account in the next January.
REMEMBER THAT THIS IS A ROLLING CALCULATION AND THAT WHILE TAX REMAINS DUE FOR EACH SUBSEQUENT YEAR, THERE WILL ALWAYS BE PAYMENTS TO MAKE EVERY JANUARY AND JULY.
It is always in your best interests to get your self assessment completed as soon as possible each year to give you maximum notice and forecasts of all liabilites.
What if I am having a bad year and I already know my year 2 liability is bound to be much less than year 1?
By definition, you will never know the exact liability until each April 5th has passed, so you will be faced with a big on account payment in the preceding January.
A claim can be made to estimate reduced payments on account based on what is already known before the January payment becomes due. It is important not to over-reduce the payments as this will generate interest once the true liability has been submitted.
We can give you all the advice you need and do the calculations.
WE WRITE DIRECTLY TO ALL CLIENTS WITH SELF ASSESSMENT LIABILITIES EARLY IN EVERY JANUARY AND JULY WITH THE PAYMENT AMOUNT AND INSTRUCTIONS HOW TO PAY