An income tax payment on account is a requirement to pay the next year’s income tax bill in advance. 50% on 31 January and 50% on 31 July. This often results in paying 150% of income tax due in year 1.
What is a payment on account?
In the world of income tax, if you have an income tax bill at the end of the year greater than £1,000 HMRC will ask you to make payments on account.
To illustrate this let’s say that you have an income tax bill of £5,000 in the 2014/15 income tax year and this is your first year that you have had to complete an income tax return.
The 2014/15 income tax year runs from 6 April 2014 to 5 April 2015. The tax return and corresponding payment is then due on 31 January 2016. This is when you pay the £5,000 for 2014/15.
The payments on account come in because HMRC expect you to also owe £5,000 for 2015/16 and want paying it before the year is up.
HMRC will ask you to pay £2,500 on 31 January 2016 and another £2,500 on 31 July 2016. Then on 31 January 2017 you will pay or receive the difference between £5,000 of the actual tax liability for 2015/16, this is called a balancing payment.
What this means is that you will typically have to pay 150% of the your year 1 income tax bill on the first tax return due date, which can come as an unpleasant shock to many.
Student loans collected through income tax
If you repay your student loan through your income tax return then this element of the tax bill is ignored in assessing whether you are above or below the £1,000 payment on account threshold.
The new dividend tax
In 2016/17 the Government will introduce a new dividend tax of 7.5% for basic rate taxpayers and 32.5% for higher rate taxpayers. This is likely to push a lot of Limited company owner/managers into the payments on account system that weren’t in it before.
Read more about the new dividend tax.
Requesting a reduction in your payments on account
If you know that your tax bill will be lower next year you can elect to reduce the payments on account. This might happen if you are going back to full time employment so are going to be taxed under PAYE only.
Beware though that if you reduce your payments on account and it turns out that you do indeed owe the tax then HMRC will not be impressed and at a minimum will charge interest on the payments on account that should have been paid.
Your Caprica accountant will be able to request the reduced payment on account on your income tax return or via the HMRC Online system.