What is provisional tax?

Hi friends,

Today I’d like to share with you what provisional tax is, and explain how it works (in New Zealand).

You've probably heard of provisional tax if you earn these types of income:

• self-employed income

• rental income

• income earned as a contractor

• income from a partnership

• overseas income

That's because provisional tax helps you to manage your income tax.

Provisional tax is not extra income tax you have to pay. It is a method of paying it, by breaking it down into simpler, smaller payments.

If you have to pay more than $5000 of income tax at the end of the financial year, IRD takes this (your residual income tax), adds 5% to it, then splits it into 3 instalments throughout the next financial year. This is the standard option.

Say you work as a full-time employee, and run a small business on the side. After filing your IR3 individual income tax return, you have residual income tax (think 'residue'; income tax left to pay) of $6000.

IRD says, "Oh no! That looks like a big tax bill. We don't want you to have to worry about such a big tax bill next year, so to make it easier, we will

• assume you will make 5% more next year

• break it down into 3 instalments for you."

• You'll now pay $6300 ($6000 + 5%) via 3 instalments of $2100 in August, January, and May.

You can also use the estimation option, if your income will either decrease, or increase by more than $60,000 over the next year. If you want to use the estimation option, simply let IRD know what your estimated residual income tax will be for the next financial year.

Say you stop your side business and your only income comes from your salary. You can also tell IRD and ask to re-estimate your provisional tax to $0. It’s that easy!

Find out more here, and discover more personal finance tips & tax know-how in my book, Mindful with Money.

I hope this has helped!

Sophia