Why is taxman charging me interest?

I have been charged more than £100 in interest by HM Revenue & Customs (HMRC), despite filing my tax return – and paying the owed tax – on time. Last year, HMRC sent me a “final reminder” for interest on “payments on account” going back to my 2006/07 tax return. I am employed with additional self-employed earnings. HMRC says that, on my 2006/07 return, I asked that payments on account be reduced to zero (which I do not dispute). But when I completed my 2007/08 return “it became clear that my request was incorrect” – and the interest charge reflects that. However, the final reminder I received last year was the first I had heard about this charge, even though I had completed two annual returns in the meantime. How can I be subject to interest for money I didn’t even know I owed?

John Whiting, tax policy director of the Chartered Institute of Taxation, says the main payment date under self assessment is January 31 after a tax year ends (January 31 2009 for the 2007/08 year in question here).

But self-employed individuals who fill in self-assessment returns also have to make two payments on account (POA), on January 31 during the tax year, and 31 July after the year (January 31 2008 and July 31 2008 for 2007/08, in this case).

The amounts are calculated purely by reference to the previous year’s tax bills (2006/07) and are basically half the difference between the total tax due for the year and the amounts deducted under PAYE and tax on interest deducted at source. If the balance is small, no POAs are required.

Taxpayers can claim to reduce or eliminate POAs, via their tax return or a SA303 form, on the basis that their tax bills won’t be as suggested by the previous year’s income.

I suspect a lot of self-employed people will have done this recently, given that 2009/10 will be a much tougher year than 2008/09.

HMRC normally just accepts and processes the application – but it does run checks when the tax return for the year comes in, to make sure that the reduction was reasonable.

It won’t normally worry if the reduction was a bit awry. However, anything significant leads to interest being charged – as you have found – since by law the tax was due on the POA schedule.

An excessive reduction could lead to a penalty if the claim was made “fraudulently or negligently”, though that rarely happens.

This is in the Taxes Management Act, and HMRC would no doubt point to the notes on the SA303 form that say interest will be charged “if you pay less than you need to”.

If you ask to reduce or eliminate your POAs and then realise you’ve gone too far, you are expected to make up the payments, either with the July POA or a separate payment.

It may seem a bit odd that nothing has shown up on your taxpayer’s statements in the interim, but the timing of the process means that the HMRC computer doesn’t check back until it processes your 2007/08 return, after 31 January 2009.

So it’s only in the middle of 2009 that the figures start to get sorted out and it emerges that you should have paid on 31 January 2008 and 31 July 2008, with interest charged since those dates.

It is difficult to challenge the interest charge as it is a mechanical calculation under the rules. I note that you refer to “a final reminder” and say that you had no previous reminders. You could ask what previous reminders were sent, then try to claim a reduction in the interest because they weren’t received.

Overall, however, I suspect you are stuck with this, and the moral of the story is that reducing POAs needs care – it’s not a no-risk option.

How can I retain control?

Wealth Questions (February 20/21) said that putting cash in a non-working partner’s name to make use of her tax-free allowance – and so save tax – also means giving up control over the transferred cash. Would a power of attorney arrangement allow a donor to retain control? If I had this power for the savings held in my girlfriend’s name, couldn’t I prevent her from withdrawing and spending the cash – while the interest would still be treated as her income for tax purposes?

Julian Lipson, head of family law at Withers, the solicitors, says that putting the cash in your girlfriend’s name for tax reasons, with her then giving you power of attorney, is a partial solution to retaining some influence over how the money is used, while being taxed as if it were hers.

But while having this power would give you the ability to transfer or deploy the money on your girlfriend’s behalf, it would not remove her ability to withdraw it for herself.

The granting of the power of attorney (which she would have to agree to and grant formally) gives you an additional power to use or transfer the money, but it does not take away your girlfriend’s own power to do it herself.

It is possible that she might deal with the money as she thought fit and before you, as her attorney, had the chance to do so yourself. Hence, a power of attorney is not an effective means of control.