January 2025
Nick Craggs explains a topic that features regularly on the the level 4 Business Tax exam.
As someone who has been recording our materials for the AAT FA24 tax courses that the Chancellor has just made out of date, I thought this month I would choose a subject in tax that never changes. So I am going to talk about the payment on account system that comes up in the level 4 Business Tax exam.
If you are employed your employer takes your tax and National Insurance (NI) off you every time they pay you, so you don’t have to worry about paying it, and also HMRC don’t have to worry about you not paying them.
However, if you are self-employed HMRC can’t take their tax from when you get paid, as what customers pay you isn’t your taxable profit for the year. HMRC are reliant on you (or your accountant) telling them how much profit you have made through your self-assessment form, and only at that point will HMRC know how much tax you need to pay. HMRC use the payment on account system to help you pay your tax so you don’t have to pay it all in one go. It also increases the likelihood of HMRC getting paid as well.
There are two key dates: 31st January and 31st July. The January one is the deadline for submission of the previous tax year’s tax return. Anyone working on their tax return at the moment will be working on the 2023/24 tax return, which runs from 6th April 2023 to 5th April 2024. This must be submitted to HMRC by 31st January 2025 at the latest. This is also the latest date that you will calculate how much tax you have to pay, and pay the tax owing.
Take an example of someone who started their own business on 6th April 2023 and prepares their accounts to 5th April 2024. They then submit their tax return on 31st January 2025.
At this point they calculate the amount of tax and NI they owe at £3,000. They will need to pay their tax for the 2023/24 tax year, but they will also need to pay their first payment on account for the 2024/25 tax year. That’s right, they are making their first payment of tax for the 2024/25 tax year in the actual tax year. You won’t know how much profit you will have made at that point, but you will be expected to make an estimated payment towards it. The estimate is based on half of your tax bill from the previous year. Taking our example where someone owes £3,000 for their 2023/24 tax year, they will also have to make their payment on account of £1,500 for the 2024/2025 tax year. The payment on account of £1,500, and the tax they owe for 2023/24 of £3,000 will make a total payment of £4,500.
The taxpayer then makes their second payment on account on 31st July following the end of the tax year. In our scenario our taxpayer would pay a second payment on account on 31st July 2025 of £1,500. Even at this point in time they might not know what their actual tax liability might be. They might not know what their tax bill is until 31st January 2026, which is the deadline to submit their tax return. At this point they know what they owe HMRC; however, due to the fact they have made some payments on account they won’t have to pay it all, or maybe even get a refund.
If we return to our scenario, and the taxpayer has now calculated their tax liability to be £4,000, they can deduct the two payments of £1,500 so they only owe £1,000 for the 2024/25 tax return. That, unfortunately, isn’t all they will have to pay. They have paid the balance on their 2024/25 tax year, but they will also need to pay their first payment on account for the 2025/26 tax year. Again, this will be based on half of the previous tax year’s liability, which will be half of the £4,000, making a payment £2,000 for the payment on account and £1,000 for the balancing payment for the following year.
Conversely, if the tax liability for 2024/25 was only £2,500, and they had paid two payments of £1,500 each, they would have paid too much. This would result in a tax refund of £500.
However, they wouldn’t get this back, as they will need to make their first payment on account for the following year, but this time it will be half of the £2,500. The refund of £500 will offset the payment of £1,250 leaving an amount payable of £750.
If you assume the taxpayer always does their tax return at the last possible moment, the 31st January after the end of the tax year, they can only know their tax bill at that point in time. It is then that they will have to make the balancing adjustment between what they owe, and what they have paid with the two payments on account.
- Nick Craggs, AAT distance learning director, First Intuition
