What are payments on account?

When you are a start up business cash flow is always tight. You seem to need to buy everything, and everything always seems to cost more than you have. With this in mind, saving for your tax bill probably isn’t at the top of your to do list. You’re on a quest not to be a statistic, you don’t want to be a failed business owner, so you focus on survival.

Waiting for you however is a gift from HMRC called a payment on account. It’s a tough reminder to start ups that tax is here, tax needs to be paid and that sticking your head in the sand will cost you.

So let’s say you survive your first year’s trading and you’ve made a profit; congratulations. Your accountant has done the maths and you owe £1,500 in tax for that year end. Painful, you might say but wait… You also have two payments on account to make of £750. The first needs to be paid with your original £1,500 by 31January and the second needs to be paid by the 31 July.

Before you get all stroppy and exclaim that you can’t pay it, let me explain where it has come from.

When you are employed, you pay tax to HMRC every month through the payroll. When you become self employed, HMRC have to wait a little longer. Payments on account are there to reduce HMRC’s waiting time.

You will incur payments on account if your tax bill is higher than £1k and it more than 80% of your total tax owed. HMRC will make the assumption that your tax bill will be identical next year and so will request that you pay some of this early.

Your tax bills will follow this pattern:

• Year one - tax due £1,500
• Plus POA - £750
• Total due by 31 January - £2,250
• 2nd POA due 31 July - £750
• Year two – tax due £2,500
• Less 2 POA – (£1,500)
• Add new POA - £1,250
• Total due by 31 January - £2,250
• 2nd POA due 31 July - £1,250
• Year three – tax due £1,000
• Less 2 POA – (£2,500)
• Add new POA - £500
• To be refunded –(£1,000)
• 2nd POA due 31 July - £500

And so on until you cease trading.

As you can see, it’s the first year where this pattern will hit you the hardest as you’ll have to pay 150% tax. In the following years you will have made payments on account.

So I really recommend saving; maybe 15-20% of your income. If your tax bill is a concern to you, it is better to complete your accounts and tax return as early as possible. The tax payment deadline remains the same so it is better to give yourself maximum saving time rather than ignore it and have just days to gather what could be a large sum of money.