PAYG
PAYG instalments
PAYG instalments are regular prepayments of income tax, made during the year by businesses and investors based on their expected income, instead of paying everything when the tax return is assessed.
PAYG instalments are the system the ATO uses to collect income tax progressively from people and businesses whose income is not subject to withholding. Rather than a single large bill after you lodge your tax return, you pay in instalments during the year, usually each quarter. The instalments are credited against your final income tax assessment, so they are not additional tax.
You enter the PAYG instalment system when the ATO notes that your most recent tax return shows enough business and investment income to meet its entry thresholds, which are set by the ATO and can change. The ATO then tells you that you are required to pay, and you will see instalment items on your activity statement. Companies, trusts, partnerships, sole traders and some individuals can all be in the system.
There are two main methods. Under the instalment amount method, the ATO gives you a fixed dollar amount per quarter, based on your last assessed return, and you pay that amount. Under the instalment rate method, you apply a rate supplied by the ATO to your instalment income for the period, which is generally your business sales. The second method follows your actual income more closely during the year.
PAYG instalments are reported on the BAS or on a separate instalment notice, depending on your registrations. Businesses already lodging a BAS often see the instalment labels there. The amount is separate from GST and from PAYG withholding. If your business income changes significantly, you can vary the instalment, but you should be careful, since estimates that turn out too low can lead to interest or penalties.
A common misunderstanding is that instalments are a tax in themselves. They are a prepayment. If you paid too much, you receive a credit or refund when your tax return is assessed. If you paid too little, you pay the balance, and general interest charge may apply to underpayments in some cases. Another mistake is forgetting that instalments need to be funded from the business account in advance of the tax return.
Keep records of instalments paid for five years and check your ATO account for credits. This is general information only, so confirm your instalment arrangements with the ATO or a registered tax professional.
Worked example
Jack's consulting company is in the PAYG instalment system using the rate method, with a rate of 5% advised by the ATO. For the quarter, his instalment income is $80,000, so the instalment is $80,000 multiplied by 5%, which is $4,000. He pays it with his BAS. Over the year the instalments total $16,000, which is credited against the company's final tax assessment.
Practical tips
- Treat instalments as a prepayment of your final tax bill and budget for them each quarter.
- If your income changes sharply, consider varying your instalment, but get advice so your estimate is reasonable.
- Check your ATO account after lodging your tax return to confirm all instalments were credited.