PAYG Explained: A Practical Guide to PAYG Instalments for Tax Efficiency

The Pay As You Go (PAYG) system was established by the ATO to simplify the process of filing taxes. This has led them to put companies in a stronger position to monitor and control their cash flow. It refers to the practice of paying a portion of future liability in advance, which results in a lower total amount owed to the ATO after the fiscal year. There are two distinct forms of pay-as-you-go (PAYG): withholding and instalment.

• PAYG Instalment, often known as PAYGI, is a prepayment made by the company towards its own personal or corporate income tax liability.

• PAYG Withholding, often known as PAYGW, is a form of advance payment that is made on behalf of your employees to satisfy their tax responsibilities.

Advantages of Using PAYG

Employers are permitted, under the PAYG tax system, to adjust the amount of tax that is withheld from their employees on each payment instalment. It is much simpler to fulfil one’s tax responsibilities when they are spread out over the year as instalments rather than having to pay a hefty tax bill all at once at the end of the fiscal year.

PAYG Instalments

You and your company will be able to fulfil your duties regarding income tax by making payments after each of the four quarters of the year under this method. These payments are made quarterly and are applied to the anticipated income tax liability that has been generated as a result of your business and investment revenue for the current fiscal year. Should you be required to make these payments, the ATO will notify you in writing. In general, however, it will apply to persons, organisations, or trusts that make a particular amount of money as a result of their individual, gross commercial, or investment activity.

It is essential to be aware, however, that different types of business and company structures, as well as trusts, primary producers, and consolidated groupings, are subject to a unique set of regulations and exemptions for PAYG payments. For example, if the ATO calculates an instalment rate for your GST-registered companies that is greater than zero, you will be required to complete PAYG instalments even if your organisation is a business or a super fund.  

Useful link: Australian Tax Return In 2024 – Everything You Need To Know 

1. Managing your taxes with the use of PAYG instalments

To maintain a healthy cash flow, it is essential to prepare ahead for your income tax obligations, regardless of whether you manage your own business or generate money from investments.

In this way, pay-as-you-go (PAYG) instalments can be of assistance to you.

• You will now start making payments under the PAYG instalment scheme. You have the option of being entered manually by submitting a request.

• During the year, you will be required to make consistent payments (instalments), often once every three months. Your income from your business and investments will determine how much you have to pay in taxes.

• When you file your tax return, the PAYG instalments you paid throughout the year are deducted from the total amount of tax you owe, leaving you with a smaller tax bill or possibly even none at all.

There is a distinction to be made between PAYG withholding and PAYG instalments. With PAYG withholding, employers deduct tax from the wages they pay their employees before sending the money to the Australian Taxation Office (ATO). This ensures that employees do not have a significant tax liability at the end of the financial year.

2. How to calculate PAYG Instalments?

The information in your most recent tax return will be used to determine the amount of your PAYG instalment. The ATO calculates the amount of PAYG instalments that need to be paid based on the total amount of business and investment income that was reported on your most recent tax return. This amount is then increased by an amount equal to the predicted growth based on GDP.

You will have the option of calculating and paying your PAYG instalments either by an instalment amount (option 1) or by an instalment rate (option 2) on the first PAYG instalment that is issued for each new financial year. The amount of the instalment, also known as option 1, is a fixed sum that is determined by the ATO based on your most recent tax return that was submitted. If you choose to pay your PAYG instalments using option 1, and you do not have any other obligations that require a BAS, then you will not be required to submit each PAYG instalment form; instead, you will just be required to pay the amount that is shown on the notice by the due date.  

Option 2 allows you to compute your PAYG instalment by multiplying your actual income for the instalment period by a rate that has been determined by the ATO. Instead of being based on a projection derived from your most recent tax return that was filed, your instalments will now be calculated based on your actual income as it is earned. If you choose option 2, then each quarter you will have to fill out the PAYG instalment form with the necessary information.  

3. Can the PAYG Instalment Amount Be Adjusted?

It is possible to adjust the amount of your PAYG payments, either up or down, so that they are more or less in line with your current level of income and cash flow, provided that any adjustments are reported in time. The Australian Taxation Office (ATO) opposes making adjustments that result in a discrepancy of more than 85 percent between the amount of tax that was paid in PAYG instalments during the year and the amount of tax that must be paid when you file your yearly tax return.

This indicates that you shouldn’t adjust each instalment until it equals zero during the year because you could wind up owing money to the government once you file your tax return. Under these conditions, the Australian Taxation Office (ATO) may levy a general interest charge.

Read Also: Maximising Your Tax Refund: Tips For Your Individual Tax Return

4. How will the amount of your Tax Return affect the amount of your PAYG Instalment?

The date when you submit your annual tax return to the ATO can affect the PAYG instalments that are given to you. This is because the ATO calculates the PAYG instalment based on the most recent facts that are known to them, which is equivalent to your most recently filed tax return.

Therefore, the sooner you submit your tax return each year, the more precise and up-to-date your PAYG instalments will be. After you have provided the relevant information in your yearly tax return, the ATO will be able to adjust the amount of your subsequent PAYG payment to account for any potential growth in your company or investment income from one year to the next.

If you provide this information to the ATO at the beginning of the tax year, they will be able to make any required adjustments to your future PAYG instalments. This will ensure that your tax instalment payments are still evenly distributed throughout the year.

PAYG Withholding

Withholding of income tax from an employee’s or contractor’s salary or earnings via the Pay As You Go method is referred to as PAYG withholding. Therefore, rather than the person who receives the money, the person who pays the income is the one who is responsible for making the tax payment directly to the ATO on behalf of the employee or contractor. These payments are made depending on the quantity of income that you anticipate earning throughout the year, and they will be taken into consideration when determining the amount of tax that you owe at the end of the financial year.

1. Should I be using the PAYG Withholding system?

If any of the following apply to your company, you are required to make tax withholdings:

• Has employees.

• Has other workers, including independent contractors, when it is mutually agreed that you will withhold sums from your compensation to them.

• Carries out financial transactions with companies without reference to their Australian Business Numbers (ABNs).

Before the date on which you are obliged to begin withholding amounts, you will be needed to register your business, which is an easy process that may be completed online or over the phone for businesses that have an ABN.

In addition, if you make payments to firms that do not quote their Australian Business Number (ABN) or have workers, you are required to register with the system. This is the case even if you do not make payments to individuals.

If an employee or contractor working for your company earns an amount that is below the tax-free level, that person can file a claim against the amount of tax that was withheld by your company after the tax year through their tax return.

2. Create a PAYG Withholding Account

If you are obligated to deduct tax from payments made to employees or other firms, you are going to want to make sure that you sign up for PAYG withholding. Before you are required to withhold your first payment, you will first need to register on the website of the Australian Taxation Office (ATO) through the Australian Business Register. You will be able to use the ATO’s Business Portal to register your business if you already hold an ABN.

3. Exceptions to the Obligations Regarding PAYG Withholding

If your company is structured as a sole proprietorship or a partnership and you take payments from the company, you might not be required to take a tax deduction from your earnings. These drawings are not subject to PAYG withholding because they are not considered wages by the government. Instead, these are PAYG Instalments provisions for your business’s income tax liability.

You are not required to exclude an employee or contractor from PAYG withholding if their income falls below the threshold at which they are exempt from paying tax. Instead, they can file an individual tax return and submit a claim against the amount that was withheld from their paycheck by your company after the fiscal year.

Conclusion 

Navigating the intricacies of the PAYG system can be daunting, but with the right knowledge and guidance, you can master it to your advantage. By implementing PAYG instalments and withholding effectively, you can simplify your tax obligations, manage cash flow, and gain better control over your finances. At The Kalculators, we understand the complexities of the PAYG system and its impact on businesses and individuals. Our team of experienced accountants and tax professionals is here to help you navigate through the process, ensuring compliance and maximising the benefits of PAYG.

If you are unsure of any of the answers, feel free to speak with one of our friendly accountant. Please give us a call on 08 7480 2593 or send an email to info@thekalculators.com.au.