Provisional tax can be difficult for businesses to manage. Traditionally, most businesses have calculated their provisional tax on a 5% uplift of the prior year’s income tax liability. But due to COVID-19, the FY2022 net income for some businesses will be lower than expected and upcoming instalments may need to be reviewed.
Furthermore, the Xero Small Business Insights from September 2021 indicates that the operating cash flow of NZ small businesses is declining. For example, the time to get paid is the longest since June 2020 at an average of 26.2 days. As a result, cash-flow in small businesses is tighter than usual. This has created a perfect storm where provisional tax payments can strain cash-flow resources even further if they are not managed correctly.
Our top 5 tips for managing your provisional tax payments:
1. If your income is lower than expected, wait for the final instalment to make a revised payment based on expected residual income tax
You can estimate your residual income tax (RIT) downwards on or before your final instalment date, provided this is a fair and reasonable estimate. However, estimating provisional tax is risky because the IRD could charge Use of Money Interest (UOMI) from the first instalment date.
A safer alternative is to keep using the standard uplift method for the first and second instalments, and then for the final instalment make a payment based on ‘expected RIT’. In this case, UOMI will only be payable from the third (final) instalment.
2. Get excess provisional tax transferred
There are several instances where you may end up over-paying your provisional tax. This may occur if:
- you pay your first 2 instalments according to the standard method and then estimate downwards
- you have made voluntary payments over and above the standard uplift instalments
- you are using the estimation method and then estimate downwards.
If you have paid more than required, you or your accountant can request excess tax be transferred to a ‘close associate’. For example, this could be a partner, relative, a company in the same group or a shareholder employee.
Once the 3rd instalment has passed, you will no longer have the option to revise estimates. In this case, the fastest way to access overpaid tax will be to file your income tax as soon as possible to get your refund once the IR system rolls over for the new financial year.
3. Get excess provisional tax refunded
If you have overpaid because of the reasons stated above, you or your accountant can apply to have the excess tax refunded. Again, this will need to be applied for before the final (third) instalment has passed.
4. Use tax pooling to help with cash-flow
Tax pooling is an effective option to help businesses conserve cash-flow. It is an IRD approved service where individuals and companies can control their provisional tax payment dates as cash-flow allows without worrying about inland revenue penalties or interest. In most cases, this will be easier and cheaper than negotiating a loan with the bank at short notice.
For example, you can make payments into a tax pool based on forecast liabilities rather than on the standard method. Interest is charged at competitive rates and is payable at the lesser of your amount payable under the standard method or your actual RIT. Refunds of overpaid tax from prior payments made can be accessed quickly if needed.
Tax pools can also provide extensions to terminal due dates and access to funds to settle other liabilities with inland revenue.
5. Get your accountant to talk to the IRD for you
If COVID-19 has impacted your business activities, it might pay to estimate your tax bill down. It’s advisable to engage with your accountant early on so they have the necessary information to communicate to the IRD at the right time. Your accountant can then formally estimate your payments down with the IRD, creating savings and preventing penalties.
Moreover, it may be possible to enter an instalment arrangement with inland revenue if upcoming payments can’t be made due to COVID-19. Assuming agreement is reached with inland revenue prior to defaulting on payment, only the 1% initial payment penalty will be applied.
In brief, although the IRD has shown extra leniency in dealing with COVID-19 related difficulties, it’s important to act sooner rather than later.
Finally, if your cash-flow is tight get your accountant to put together a cash flow statement and plan for you. A good cash flow forecast should provide real-time information about the ins and outs over the next months as well as some sensitivity analysis on what could go wrong. This will optimise your cash flow decisions and help you plan for success.
These are just a few ideas that 5th Consulting has to offer so feel free to reach out and lets see how we can help. For more information, please contact us here.
Published on 24th November, 2021.