What are payments on account?

Definition of payments on account

Payments on account are the amount of Income Tax and class 4 National Insurance that some business owners have to pay to HMRC for a future tax year.

Who has to make payments on account

If your Income Tax and class 4 National Insurance totals more than £1,000 for a tax year and you don't pay tax at source on more than 80% of your income, you'll have to make payments on account.

'Paying tax at source' is when the tax is taken off and paid over to HMRC before you receive the income - like your employer does if you are paid wages.

Payments on account are due on 31st January and 31st July, and are each worked out as half the previous year's tax and class 4 National Insurance liability.

Class 2 National Insurance does not count towards payments on account.

Example of a payment on account:

A self-employed tailor has Income Tax and class 4 National Insurance of £1,200 to pay for their first year of business. They are due to pay this to HMRC by 31st January.

Because the tailor’s taxable income is over £1,000 and they do not pay tax at source, they must also make payments on account for the following tax year. These payments are due on 31st January (the same day as their £1,200 bill is due) and 31st July, and each payment is calculated as £1,200 ÷ 2. This means that on 31st January the tailor must pay £1,800 (£1,200 + £600) to HMRC, followed by a further £600 on 31st July.

When the tailor comes to complete their tax return for their second year of business, they will only need to pay any amount that they owe above the £1,200 that they have already paid ‘on account’. For example, if the tailor’s total tax bill for that year is £1,300, they will only have to pay a ‘balancing payment’ of £100.

Paying your Income Tax bill

If you're a sole trader, FreeAgent enables you to find out how much Income Tax you owe and then submit your tax return directly to HMRC. As you go about your daily business FreeAgent works away, calculating your Self Assessment liability. When it's time to file, FreeAgent auto-fills parts of the Sole Trader Self Employment form and you can submit your tax return directly to HMRC.

Disclaimer: The content included in this glossary is based on our understanding of tax law at the time of publication. It may be subject to change and may not be applicable to your circumstances, so should not be relied upon. You are responsible for complying with tax law and should seek independent advice if you require further information about the content included in this glossary. If you don't have an accountant, take a look at our directory to find a FreeAgent Practice Partner based in your local area.

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