Payments on Account Explained: What They Are and How to Manage Them

The first January deadline often delivers a shock that no one warns new self-employed people about. You file your tax return, see the tax bill, and then discover you owe not just the tax from the past year but also half the next year's expected tax on top — due immediately. This is the payments on account system, and it catches almost everyone unawares when they first encounter it.

Understanding how it works doesn't make the bill smaller, but it does mean you can plan for it properly instead of scrambling every January.

What payments on account actually are

Payments on account are advance payments toward your next year's tax bill. HMRC uses them to collect tax in real time rather than waiting until the following January. Instead of paying all your tax in one lump in January, you make two interim payments — each equal to half of the previous year's Self Assessment tax liability — in January and July.

The system exists because self-employed tax is not deducted at source (unlike PAYE, where your employer deducts income tax and National Insurance from each payslip before you receive it). With PAYE, the government gets money throughout the year. With Self Assessment, it would have to wait up to 22 months after the income was earned to receive the tax — so payments on account bring some of that money forward.

Who has to make payments on account

Payments on account apply to you if your Self Assessment tax bill (income tax plus Class 4 NI, minus any tax already deducted at source) is more than £1,000. If your bill is £1,000 or below, you pay the whole amount by 31 January and make no advance payments.

There is also an exemption if more than 80% of your tax was collected at source (via PAYE, for example). This catches people who have a main employment but also some freelance income — if the freelance income is modest enough that the tax on it is mostly covered by PAYE deductions, payments on account may not apply.

How they are calculated

HMRC calculates each payment on account as 50% of last year's Self Assessment liability. The logic is simple: if you earned £X and owed £Y last year, HMRC assumes you'll earn a similar amount this year and advances half the expected bill in January and half in July.

Example:

Your 2025/26 Self Assessment bill (income tax + Class 4 NI) comes to £8,400.

By 31 January 2027 you must pay:

• £8,400 balancing payment for 2025/26
• £4,200 first payment on account for 2026/27

By 31 July 2027 you must pay:

• £4,200 second payment on account for 2026/27

By 31 January 2028, you calculate your actual 2026/27 bill. If it comes to £9,200, you've already paid £8,400 on account. The balancing payment due is £800 — plus a new set of payments on account based on the £9,200 bill.

Use the Payment on Account Calculator to model your specific numbers and see what you'll owe and when.

The first year of self-employment

In your first year of trading, you have no previous year's tax bill, so HMRC cannot calculate payments on account based on prior liability. You simply pay your first Self Assessment bill by 31 January — the full year's tax in one payment.

However, if that bill exceeds £1,000, you also owe the first payment on account for the second year, due that same 31 January. This means your first January bill can be 150% of your first year's actual tax liability — one year's bill plus half of next year's. This is the moment that most new self-employed people find genuinely alarming, and it is entirely by design.

The practical implication is that you need to set aside more than you might expect from the very first payment you receive as a freelancer. A common guideline is to save 30–35% of all freelance income into a separate tax account. This covers income tax, Class 4 NI, and the first payment on account that will arrive in your second January.

What happens if your income drops

If your income drops significantly from one year to the next, the payments on account will be too high — they're based on last year's bill, not this year's expected income. In this situation, you can ask HMRC to reduce them.

To reduce payments on account:

You can reduce your payments on account by filing your tax return early (if you know the year's income is complete) or by submitting a claim to reduce payments on account on the SA form itself. The claim is made in the "reduce payments on account" section of the return, where you provide your estimated liability for the current year.

If your estimate proves too low — if your actual tax bill turns out higher than the payments you made — HMRC will charge interest on the underpayment. But if your income genuinely dropped, a reduction is entirely legitimate, and HMRC expects people to use it.

The risk of reducing incorrectly is interest on the underpaid amount, not a penalty. The rate is Bank of England base rate plus 2.5%. Keep a record of your reasoning for the reduction.

The July payment

The second payment on account, due 31 July, is the same amount as the January payment — another 50% of last year's liability. Many self-employed people find July difficult because there's no tax return due, no obvious trigger, and it arrives in the middle of the summer. Setting a calendar reminder for 31 July from the beginning of the tax year is worth doing.

Planning your cash flow around payments on account

The predictable pattern looks like this once the system is established:

• 31 January: Pay this year's balancing payment + first payment on account for next year
• 31 July: Pay second payment on account for next year

Once you've been self-employed for two or three years and your income is relatively stable, the system becomes manageable — last year's bill tells you roughly what each payment will be. The dangerous year is always the first, when the full bill arrives at the same time as the first advance payment.

A practical habit: at the end of each month, estimate your year-to-date profit and use the Self Assessment Estimator to calculate what you'd owe if the year ended today. Keep that number updated. By the time January arrives, you should have a very accurate sense of your liability — no surprises.