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Tips for managing upcoming provisional tax payments

Tax Alerts - May 2022

Now 31 March 2022 has passed, the next major milestone for many taxpayers is 7 May 2022 because this is the due date for the third instalment of 2022 provisional tax for those taxpayers with a March balance date. This year, 7 May falls on a Saturday, so the payments made before the end of the next working day of Monday 9 May will be treated as made in time.

The majority of taxpayers who pay provisional tax use the standard method, which means the final instalment is calculated using the prior year’s residual income tax (RIT) plus an uplift factor of 5%. But of course, provisional tax paid based on historical results may not be reflective of the actual results for the 2021-22 tax year. This may give rise to an exposure to use of money interest (UOMI) for some taxpayers. Others may be struggling to manage cashflow in light of the current environment. In this article, we remind taxpayers of the basic rules and explore what options there are for managing provisional tax, cash flow and use of money interest. It focusses on due dates for a standard March balance date, but the comments below will be equally applicable for taxpayers with other balance dates.

Broadly, taxpayers with a residual income tax liability for 2022 of less than $60,000 will only be subject to use of money interest from the terminal tax date of 7 February 2023 (or 7 April 2023 where tax agent extension of time applies). Provided full payment is made by terminal tax date, no use of money interest is payable. We refer to these provisional taxpayers as “safe harbour taxpayers”.

When the UOMI rules were overhauled in 2017, taxpayers could only qualify for safe harbour treatment if all instalments were paid on time and in full (subsequently a $20 tolerance was introduced). It meant that if a taxpayer paid late or short paid an instalment by more than $20, they became subject to UOMI from the third instalment. The good news is that the “pay in full and on time” requirement has been repealed for 2023 provisional tax payments onwards, so from next year. Officials consider that late payment penalties will be a sufficient deterrent to incentivise taxpayers to make payments on time. For now, safe harbour taxpayers will still need to ensure the final instalment for 2022 provisional tax due on 7 May 2022 is paid correctly and on time before the next working day of 9 May 2022.

For those taxpayers that are not safe harbour, UOMI applies from the third instalment on the difference between the actual 2022 RIT less the total of 2022 provisional tax paid and will run until the amounts are paid in full. By the way, the UOMI rate for underpayments is set to increase from 7% to 7.28% from 10 May 2022. Conversely, if total provisional tax paid is more than the actual RIT liability for 2022, because the Commissioner’s paying rate is 0%, no UOMI will be earned.

If 2022 RIT will be higher than the standard method liability, these taxpayers might wish to make a voluntary instalment over the standard uplift amount up to the actual liability so there will be no shortfall and UOMI is reduced or eliminated.

If actual results for the 2021-22 year will be lower, taxpayers may be reluctant to hand over cash to Inland Revenue (IR) only to have it refunded when the tax return is filed. In this case, it is an option to pay the final instalment based on “expected RIT”. In other words, taxpayers with more than $60,000 RIT can pay up to the expected liability rather than the higher standard uplift amount. The theory is that by the time the final instalment of provisional tax is due, taxpayers should have a good idea of what the actual liability is for this year and make payment to that amount. To the extent the payment made is short, UOMI will be payable on the difference. Late payment penalties should not be charged, but it does pay to notify IR of the intention to pay a lesser expected RIT amount otherwise the IR’s computer system will be expecting the full standard uplift payment. Whilst this option has been legislated for and is a perfectly legitimate way of managing the final instalment, our experience is that the IR system is not geared up to recognise it.

In days gone by, we might have used the estimation method in this situation, but today there is a reluctance to file estimates to lower provisional tax liabilities because use of money interest is then charged from the first instalment rather than the third instalment.

For those affected by COVID-19, the standard method and the uplift options may be in excess of their actual 2022 liability. Some taxpayers may be struggling to make an accurate forecast of the 2022 provisional tax because they have been significantly adversely affected by COVID-19. The Government has extended the relief it first introduced in 2020 to give the Commissioner the power to remit use of money imposed on short paid 2022 provisional tax provided certain eligibility criteria are met.

We reached out to Tax Traders, a tax pooling intermediary for thoughts on how tax pooling can assist.

Nicola Taylor, Co-founder of Tax Traders, notes they have seen a shift in the way tax pooling is used by taxpayers since the start of the pandemic. Traditionally, the primary use of tax pooling was to top up tax shortfalls after the fact. Fast-forward two years into the pandemic and tax agents are now suggesting the use of tax pooling in a much more proactive way. Businesses are looking for sources of funding and are using tax pooling as a cash flow management tool, complementing their treasury function in lowering the cost of financing and debt to the business. 

Financing tax (paying an interest amount upfront and deferring the payment of tax to a later point in time) remains a competitive option when compared to other sources of funding if a client needs to retain funds in a business. In the face of increasing uncertainty around profits for many businesses, as well as complementary insurance on tax finance fees, financing tax is a great way to reduce exposure to UOMI and penalties, while hedging the risk of having a tax bill in the future. Tax Traders exclusive feeGuard product provides a full refund of finance interest paid on the portion of finance not needed at maturity. This makes the choice to finance risk free. If you need it, you use it, if you don’t need it, you get your interest cost back.

Businesses who want to pay their tax on time should still deposit into a tax pool on their relevant provisional tax instalment dates to ensure they have full optionality over these deposited funds. By depositing into a tax pool, businesses retain flexibility over these funds, in that they can withdraw deposits from the pool (subject to anti money laundering (AML) checks) should they need to pull cash back in their business. Nicola notes that many clients took advantage of this under the two major periods of lockdown, and, for some, it was the reason they could stay trading.

When it comes to year-end, Tax Traders’ smart tools ensure businesses pay what they need to at each instalment date and will perform any relevant swaps/transfers needed between dates/amounts.

If a business is not wanting to finance or deposit, purchasing tax after the fact still minimises exposure to UOMI and late payment penalties, should a business miss a payment or need to top-up any shortfalls throughout the income year. Businesses can save up to 30% on UOMI through purchasing via Tax Traders, as well as eliminate the late payment penalty applied to non-payment from and after seven days of the original due date of any provisional tax shortfall. This remains a smart option for clients who want to finalise their tax position before outlaying any funds for their tax bill.

Tax pooling is an excellent option to provide clients and offers an array of tax payment options to suit all taxpayers, retaining cash flow flexibility, all while mitigating UOMI and late payment penalties.

For more advice, contact your usual Deloitte advisor.

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