Payments on account, explained

What payments on account are

Payments on account are advance instalments towards a taxpayer's next Self Assessment bill. HMRC uses them to collect Income Tax and Class 4 National Insurance during the tax year, rather than waiting until everything is settled after the return is filed.

The system assumes that profits in the coming year will be broadly similar to the year just assessed. Each instalment is normally half of the previous year's liability for those taxes, after deducting any amounts already paid through PAYE or deducted at source. Capital Gains Tax, Student Loan repayments, and other charges on the return are not included in the calculation.

For a sole trader or self-employed person who has filed a first return with a substantial tax bill, payments on account often appear for the first time in the January following that filing. Until then, the only experience may have been a single balancing payment. The shift from one annual payment to two advance instalments plus a balancing amount is one of the most common sources of confusion in Self Assessment.

The mechanism is separate from monthly or quarterly budgeting. HMRC does not ask filers to estimate profits in advance for the instalments themselves; the amounts are derived mechanically from the prior year's figures unless a formal reduction is made.

When HMRC requires them

Payments on account are not universal. HMRC applies them only when two conditions are met after a Self Assessment return is processed.

First, the previous year's Income Tax and Class 4 National Insurance bill must exceed £1,000. Second, less than 80% of the total tax liability for that year must have been collected through PAYE or deduction at source. A taxpayer whose main income is employment with only a small amount of self-employment may therefore avoid payments on account even when a return is required.

Directors who take a small salary and dividends through a limited company can fall into this pattern. Dividends are not taxed at source in the same way as PAYE salary, so a director with dividend income above the threshold may still face payments on account despite receiving some PAYE income. The limited company director Self Assessment guide covers how dividend and salary mix affects the annual bill.

Once the conditions are met, HMRC adds the two instalments to the payment schedule automatically. No separate election is needed. The amounts appear on the annual tax calculation and in the online account.

Why the January bill can feel like a shock

The 31 January payment date carries more than one obligation. For many filers it includes three distinct elements at once: any balancing payment still owed for the tax year that ended the previous 5 April, the first payment on account for the current tax year, and sometimes penalties or interest from earlier delays.

A taxpayer who owed £4,000 in Income Tax and Class 4 NIC for 2024–25, with no PAYE credit, might reasonably expect the January 2026 deadline to relate only to that £4,000. In practice, the bill can be larger. If payments on account apply, January 2026 may require the remaining balance for 2024–25 (if any was not paid earlier) plus the first instalment for 2025–26 — typically half of the 2024–25 liability, or around £2,000 in this example. The combined figure can approach £6,000 or more, depending on what was already paid.

The second instalment for 2025–26 then falls on 31 July 2026. Filers who plan cash flow around a single annual tax date can find July equally surprising if the January experience was not anticipated.

This "January shock" is structural, not an error. HMRC's payment calendar is designed so that, over time, most of the next year's liability is collected before the return for that year is filed. Understanding that design early makes Self Assessment deadlines easier to map against business income cycles.

How instalment amounts are calculated

HMRC's starting point is the Income Tax and Class 4 National Insurance shown on the latest processed return, minus tax already paid at source. That net figure is divided equally between the January and July payments on account.

If the prior year's return included a significant one-off gain or an unusually strong year, the instalments will reflect that level until a reduction is granted or the next return replaces the figures. Conversely, a year with lower profits does not automatically reduce instalments; the prior year's numbers remain in force until HMRC receives either a reduced payment request or the next return.

Balancing payments work in the opposite direction. After the return for a tax year is filed, HMRC compares the actual liability with the two payments on account already made. Any shortfall becomes a balancing payment, normally due by the following 31 January. Any overpayment is refunded or offset against future liabilities.

Class 2 National Insurance, where it applies, is handled separately on the return and is not part of the payments on account calculation. Student Loan repayments calculated through Self Assessment are also excluded from instalments.

Reducing payments on account

When expected profits or other income are likely to be lower than the year HMRC used for its calculation, a reduction request can be submitted. This is done by signing into the Government Gateway and using the "reduce payments on account" service, or by completing form SA303 and sending it to HMRC.

The request should reflect a reasonable estimate of the current year's liability. HMRC may ask for supporting reasoning if the reduction is large. A reduction that proves too low does not attract a penalty on its own, but it does mean a larger balancing payment — and potentially interest — when the return is filed and the true liability is known.

Common situations where a reduction is appropriate include a business wind-down, the loss of a major contract, a planned career break, or a shift from self-employment to employment where more tax will be collected through PAYE. A year that included a one-off capital gain in the prior return may also justify a lower instalment if nothing similar is expected.

HMRC will not reduce payments on account simply because cash flow is tight while profits remain unchanged. The reduction must be tied to a genuine expectation of lower liability, not to affordability alone.

Risks of reducing too far

Underpaying instalments creates a cash-flow benefit in the short term and a larger bill later. Interest accrues on any tax paid after the due date, including balancing payments that arise because instalments were set too low. HMRC's late-payment interest rate is published on GOV.UK and changes periodically.

There is no "reasonable excuse" defence for understating payments on account in the way that exists for late filing. If a taxpayer knew profits would be similar to the prior year but reduced instalments anyway, the consequence is normally interest on the difference, not a negotiated waiver.

Repeated large reductions followed by substantial balancing payments can also signal to HMRC that estimates are unreliable, though routine honest adjustments for changing circumstances are a normal part of Self Assessment. Keeping a brief record of why a reduction was requested — for example, a signed contract ending or accounts showing a downturn — supports the position if HMRC queries the figure.

Conversely, failing to reduce instalments when profits have clearly fallen means overpaying HMRC until the return is filed and a refund is processed. For some businesses, tying up cash with HMRC is preferable to risking interest; for others, an timely SA303 preserves working capital. Neither approach is universally correct; the choice depends on how confident the forecast is and how costly delayed refunds would be.

Payments on account and record-keeping

Instalments should appear in bookkeeping alongside other tax liabilities. Accounting software that tracks only the annual return figure can understate amounts due if the January and July payments are omitted from cash-flow forecasts.

A simple schedule — prior-year liability, each instalment date, and any reduction applied — makes it easier to reconcile bank payments against HMRC's online statement. When the annual return is prepared, comparing payments on account made with the final liability explains any balancing payment or refund without last-minute surprises.

Allowable expenses and profit calculations feed directly into whether payments on account will change next year. Lower taxable profit on the return reduces future instalments automatically once that return is processed. The allowable expenses guide describes which costs can legitimately reduce profit figures that underpin these calculations.

Your next step

Filers who have just received a tax calculation showing payments on account should note both instalment dates and amounts in a cash-flow calendar alongside Self Assessment deadlines. Anyone expecting materially lower profits this year can review whether an SA303 reduction is warranted before the next instalment date.

Those filing a return for the first time may find it useful to read how to file Self Assessment alongside this guide, so the payment schedule is understood before the first January deadline arrives. Sole traders can also consult the sole trader Self Assessment guide for how trading profits flow into the tax calculation that drives instalments.