Why is my tax bill (payment) different from my tax liability?

You complete a Self-Assessment tax return, submit it, then a few weeks later you receive a letter from HMRC asking you to pay a much higher amount than the tax liability shown on your tax return. Why?

 

In short, HMRC wants you to pay your tax liability for the next tax year as soon as possible, and not wait until you file another tax return. Therefore, each year they require you to pay the tax liability on the current tax return, plus 50% of that liability as a provision for the next tax year’s tax liability. A second payment of 50% will be required by the July payment deadline.

 

HMRC wants to collect your tax liability as quickly as possible. In this context tax liability means any tax still owed after tax deducted from source (e.g. PAYE). To help achieve this goal, and because the payment deadline falls nine months after the end of the tax year, HMRC require you to pay not only the current year’s tax liability, but also half of next year’s liability! HMRC does not know what your next year’s tax liability will be. They simply assume it will be the same as this year’s. They require you to pay an amount equal to 50% of this by January. They require you to have paid the remaining 50% by July.

 

Let’s look at an example. You submit your tax return in December 2020 for the tax year ending 5th April 2020. Your tax liability is £6,000 on your tax return. You thought you would need to pay £6,000 by 31st January 2021. In fact, the tax bill that you receive is £9,000. This figure will vary depending on several factors: whether you have filed a tax return previously; changes in your tax liability from one year to the next; and the ratio of tax already paid for the current year to the tax liability. Here are a few scenarios showing what could happen in the following tax year – 2021.

 

Your tax liability increases

By 31st January 2022, you file your tax return for tax year ending 5 April 2021. Your actual tax liability this year is £8,000. However, you have already a total provision towards this of £6,000 during the year. You will need to pay the total of the two amounts:

  1. Balance between actual tax liability and the provision you paid: £8,000 – £6,000 = £2,000
  2. Provision for the following tax year: 50% x £8,000 = £4,000

Total due: £4,000 + £2,000 = £6,000

By 31st July 2022 you will need to pay an additional 50% provision – £4,000.

 

Your tax liability decreases

Your actual tax liability is £5,000 instead of £8,000, the payment require by 31st January 2022 will be the difference between:

  1. Surplus between actual tax liability and the provision you paid: £6,000 – £5,000 = £1,000
  2. Provision for the following tax year: 50% x £5,000 = £2,500

Total due: £2,500 – £1,000 = £1,500

By 31st July 2022, you will also need to pay the remaining 50% provision: £2,500.

 

Your tax liability decreases significantly

Your actual tax liability is £2,000. In this case, after you submit your tax return, you will receive refund equal to the difference between:

  1. Surplus between actual tax liability and the provision you paid: £6,000 – £2,000 = £4,000
  2. Provision for the following tax year: 50% x £2,000 = £1,000

Total tax refund to you: £4,000 – £1,000 = £3,000

 

Your tax liability is less than 20% of the total tax charge of the tax year

Remember that, in addition to you tax liability, you may already have paid tax through PAYE. Let’s say you are employed but have income from a rental property during the tax year ending 5 April, 2021.

  • Your pay income tax of £25,000 through PAYE
  • Your tax liability on rental profit is £4,500
  • £4,500 is less than 20% of total tax charge ( [£25,000 + £4,500] x 20% = £5,900)

You are required to pay:

  1. £4,500. No provision for the next tax year is payable.

 

Your tax liability is less than £1,000 for the tax year

You are newly self-employed during tax year ending 5 April, 2021 and make only a small profit. Your tax liability for the year is £800.

You are required to pay:

  1. £800. No provision for next tax year will be payable.