If your residual income tax (RIT) bill was more than $5,000, you’ll need to estimate and pay provisional tax.

There are four methods of calculating provisional tax in New Zealand. These are:

• The standard option
• The estimation option
• The ratio option
• The Accounting Income Method.

The two most widely used options for working out provisional tax payments are the standard calculation method (used in most cases) and the estimation method (only beneficial in specific scenarios).

How you work out your provisional tax payments depends on which calculation method you choose. Due to the range of provisional tax options available, it’s important to understand how each method of estimating provisional tax will affect your business.

Choosing the wrong method of calculating provisional tax may result in under – or overpayments, so we recommend talking to your financial advisor before deciding how to pay tax.

Provisional tax calculations for companies can be complex. Making the wrong choices could leave a company facing unexpected tax to pay and use of money interest on underpayments. At Tax Management New Zealand, we recommend talking to a business tax expert before deciding on an option for working out your businesses provisional tax requirements.

The standard calculation method (also known as the standard uplift model) is the most common way of calculating provisional tax in New Zealand. Download the guide above for a comprehensive resource on using this method so you know what to pay, when to pay and how to avoid IRD use of money interest and late payment penalties.

Basically, the standard calculation method is an ideal way to estimate provisional tax if over the coming year you expect to make more or roughly the same amount of income as the previous tax year.

When using this method:

• Your provisional tax payable is your previous year’s RIT plus 5%. This represents a 105% uplift on last year’s tax liability.
• For example, if your previous financial year’s tax was $5000, then your provisional tax estimate would be $5250.
• The total amount is split into instalments. Using the above example, this means three payments of $1750 on the due dates. You can find your provisional tax dates here.
• If you file GST returns every six months, you will only need to make two provisional tax payments.

When you use the estimation method, you’re working out your provisional tax based on an informed estimate of your expected profitability for the tax year ahead. To use the estimation method, calculate your total projected taxable income for the upcoming year, and work out the income tax liability on that income.

As with the standard calculation method, you’ll pay your provisional tax in three instalments throughout the year, based on the dates that align with your balance date. You can revise your income estimate at any point during the year — either upwards or downwards — and adjust your future provisional tax payments to reflect this.

The estimation method is particularly useful for businesses and sole traders expecting a significant drop from their previous year’s earnings. However, it’s important to be cautious when using this method. If you underestimate your tax for the year, IRD Use of Money Interest (UOMI) will apply. To avoid this, you’ll need to ensure that each instalment equals at least one-third of your final tax liability.

There’s also the potential for penalties if Inland Revenue considers your estimate to be unfair or unreasonable. If you choose to use the estimation method, paying through TMNZ can help reduce your exposure to IRD interest and penalties.

The accounting income method (AIM) is a pay-as-you-go provisional tax calculation for companies with a turnover of less than NZD 5 million. Introduced by Inland Revenue in 2018, AIM helps sole traders and businesses manage provisional tax instalments in a way that better reflects their actual earnings.

The accounting income method can be a good choice for your business if:

• Your business is newly established, and you expect variable income tax obligations.
• Your earnings are growing beyond the previous year’s figures.
• You receive irregular income or seasonal earnings towards the end of your tax year, making it difficult to estimate your total taxable income.
• You have access to compatible accounting software to calculate provisional tax.

When using AIM, you are required to file a statement of activity with Inland Revenue through your accounting software. The IRD use this information to determine whether you must make a payment, and the required amount, and to calculate if you are due a tax refund. In most cases, you will be required to pay provisional tax six times per year. Your statement and payment schedule are based on your GST due dates:

• Monthly if you’re registered for a monthly filing.
• Two-monthly if you are registered for two or six-monthly filings.
• If you are not registered for GST, follow the two-monthly schedule.

Note: you cannot currently use tax pooling with the accounting income method so if you have liabilities to settle, unfortunately TMNZ will be unable to assist with payments.

The GST ratio method offers another way to calculate provisional tax and is particularly suited to GST-registered businesses. Like AIM, this method helps businesses whose earnings fluctuate throughout the tax year.

To apply for the ratio method, you are required to inform the IRD of your intention to use this method before the beginning of the tax year. You must also be registered for GST, file one or two-monthly GST returns, and have an income tax liability below $150,000 in the previous year.

To make a provisional tax estimate using the ratio method:

• Inland Revenue determines your ratio percentage by dividing your residual income tax for the previous year’s tax by your total GST taxable supplies for the same year.
• When the previous year’s figures aren’t available, the IRD will use your residual income tax and total GST taxable figures from the year before.
• Your provisional tax instalments are calculated by multiplying the ratio percentage by your GST taxable supplies from the previous two months.
• When utilising the ratio method, you will pay provisional tax instalments every two months (six times a year) alongside your GST returns.

Note that the GST ratio method is not a commonly used method to calculate provisional tax, but it is available as an option.