Where there is a sufficient tax liability for the year, this results in payments on account becoming due for the following year.
As an employee, tax is paid every month through the payroll – whereas the self-employed person used to pay their tax once a year on 31st January following the year-end.
HMRC introduced Payments on Account some time ago to bring balance between the different tax payment requirements – these Payments on Account are paid on 31st January and 31st July following the tax year, and count towards the following years tax liability.
However, people without an adviser may not realise that these need to be paid and perhaps only save enough to pay their expected tax liability for the year – unfortunately leaving another 50% to find by 31st January with a further 50% by 31st July that they hadn’t budgeted for.
One of the advantages with preparing the returns shortly after the tax year-end is that the tax position is known well in advance, together with the amounts of any Payments on Account due.
Payments on Account are calculated based on the earlier years income and as such will most likely prove to be not entirely accurate when the actual return and computations are prepared.
In cases of rising profits there will be a further tax balance due, however the payments on account remain fixed so there is an advantage in preparing the return in good time and knowing what the balancing payment will be on 31st January.
In cases of decreasing profits, the Payments on Account may be too high and as such an application can be made to reduce these to the actual amounts required. There are penalties for reducing the Payments on Account to a level below the actual amount due, so it is important to make sure that these are calculated correctly. In advance of preparing the return, estimates can be used if next years profit is expected to be lower – but these should be finalised as soon as possible after the end of the tax year.
To summarise the payments that may be due for a new business:
31st January
100% of the tax for the previous tax year
PLUS 50% Payment on Account towards the next tax year.
31st July
50% Payment on Account towards the next tax year.
Payments on account are a common point that I’ve seen catching out several new clients, so early preparation of the accounts and tax return together with the tax computations will avoid any nasty surprises when it comes time to pay the tax liabilities.
I offer a no-charge initial meeting – if you know anyone who has started a business, or is considering doing so, please do put them in touch with me.
In my next blog post I will be covering National Insurance, a ‘hidden’ tax that again people may not have budgeted for when they start a business.