It is not an uncommon scenario to see most of the self-employed people struggling with understanding how self-assessment works, especially with the fact that your return covers the previous tax year and not the current one and if you don’t want to be on the wrong side of HMRC, it is important for you to understand what is self-assessment and how you need to file it. Also a self-assessment is one of the most significant tax documents, especially if you are a self-employed and it is good enough to give you midnight headaches.

Understanding HMRC Payments on account

To put it in simple words, a self-assessment or Form SA100 is a way of finding out how much income tax and National Insurance you need to pay and as a general rule, anyone who receives income that isn’t taxed at source needs to complete a Self-Assessment and if you are self-employed, then you need to file a self-assessment, if income tax or National Insurance Contributions (NIC) is not already deducted then you need to notify HMRC regarding the same so that they can calculate the amount of tax you owe.

HMRC gives you the deadlines for paying your self-assessment tax bill are:
  1. 31st January – for any tax you owe for the previous tax year and for first payment on account,
  2. 31st July – for second payment on account.
There is certain checklist which as a self-employed person should follow in order to make sure that you don’t go wrong:
  1. Registration with HMRC: As a self-employed individual, you are legally binded to complete a Self-Assessment tax return and in order to do so; you must register with HMRC at the earliest possible. For registering yourself as self-employed with the HMRC, you must keep in mind the deadline of 5th Oct following the end of the first tax year and in case you miss the deadline, you are liable to pay the penalty for late registration. HMRC allows you to register yourself both online and over the phone.
  2. Keep records: If you are a self-employed individual, you are legally binded to keep all records such as receipts, invoices and bank statements and also to file them in a suitable manner. And to make sure that the records are safe, you can keep your records in bookkeeping software.
  3. Timely payments: You as a self-employed individual should make sure that all applicable payments are well within the deadline if you don’t want to attract financial penalties.
  4. Give name to your business: As a self-employed individual, you can run your business under your name as well but if you want to create a lasting impact of your business, it is advisable to give a name to your business. However you must make sure that you are not using a sensitive word listed by Companies House.
  5. Understand the rules around hiring: Being a self-employed individual doesn’t mean that you cannot hire people to work for you. What is important is that you must be aware about the HRMC rules regarding hiring employees.

Payment on Account

Payment on account is a tax payment made twice a year by self-employed in order to spread the cost of the year’s tax and is calculated by looking at your previous year and is to be paid in two installments. Likewise self-assessment, payment on account is not an optional because once you pay the self-assessment tax return; you get automatically enrolled for payment on account. You can get an exception from the payment on account if your annual tax bill is equal to or less than £1,000 or if in excess of 80% of that year’s tax. Essentially payment on account are considered as advance contributions towards your self-assessment tax bill and you should be prepared for your first year of payment of account, you should be aware of what to expect.

The first installment of payment on account is to be paid on 31st January and the second installment is to be paid on 31st July. Payment on account was introduced to help you spread out your payments during a particular assessment year and each of the two installments of the payment on account is normally be 50 percent of your previous year tax bill. For example: in case you have paid £20,000 in a tax year for which you are filing your return, the first installment of payment on account due on 31st January is £5,000 and another installment due on 31st July is another £5,000, which will also include Class 4 National Insurance Contributions if applicable and as a result of which when it comes to filing your self-assessment return for the following financial year, £10,000 is already paid towards it and in case you have overpaid then you will be given a rebate. In case your earnings are higher than what you have expected, then you must ensure that you have paid everything which you owe by the deadline i.e. 31st Jan and such payments are called as balancing payment and your payment on account number will also be amended as per your increased tax liability.

For example, if your annual tax bill for the financial year 2016-17 is expected to be £6,000 including your previous year tax liability. Once you have paid both the installments of payment on account, you would have paid total of £6,000 by 31st July 2017, but by the time you will submit your income tax return, you will discover that the total tax due for the year 2017-18 is more than what you have expected it to be and it is more than £10,000 and thus you will have an outstanding payment of £4,000 which needs to be paid by 31st July 2018 as balancing payment. Thus based on the above situation, you will be making total tax payment of £9,000 by 31st July 2018, which will comprise of the following:

  • Balancing payment of £4,000 for the year 2017-18 tax bill and
  • £5,000 for the first installment of payment on account contribution for the year 2017/18.

Payment on account becomes problematic if your income for one year is significantly more than the income of another year and being a self-employed individual, you can foresee the cash shortage in advance and thus can request HMRC to reduce your payment on account. Although there is a certain limit upto which you can request HMRC to reduce your payment account, because if you will do so, HMRC will charge you interest and penalties for underpaying tax. Also if HMRC feels that you have submitted your request only in order to avoid paying tax, then also it will throw in penalties for good measure. However if you have messed up completely or you think you cannot pay then it is best for you to contact the HMRC asap because where you might want to ignore or avoid the situation, you cannot do so and also it is best to consult an advisor or industry expert who can help you with best possible solution in order to avoid hefty penalties.

Your payment on account is calculated based upon your current year earnings and this is the reason why payments on account could be a bit painful if you haven’t done your thorough homework on the same. Also HMRC will look at your present year earning and unless warned beforehand, it will assume that you will earn the same next year as well and based on this assumption, it will ask you to make 50% of payment on account now and balance 50% in 6 months time and this is what makes payment on account a bit painful, especially its first installment which effectively gives you a 150% tax liability in one go

HMRC gives you some consideration for payment on account i.e. if you have paid your self-assessment on time, HMRC gives you the opportunity to make the payment on account at the same time itself. Also HMRC is committed towards shifting its entire process online and thus you have the option to make payment on account online either by downloading their taxpaying software or by logging on the HMRC website or you can also send Form SA303 to your tax office to reduce your payment on account and this is what most of the people opt for in case they are facing difficulty in paying their tax bill and they reduce their payment on account hoping for a better financial year next time which will help them to settle the remainder of the bill. However, you should be careful while doing so because if you earn the same next year as you did the last year, you still have to pay the same amount.

You can check your payments on account by logging in to your online account and clicking on “View Statements”, where you will see the following:

  • Payments on the account you have already made and
  • Payment you need to make towards your next bill.

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