Published on 13 May 2025
Managing your income tax obligations throughout the financial year can be challenging, especially when your business or investment income fluctuates. Many business owners and investors find themselves facing a large tax bill after lodging their annual income tax return, which can put pressure on cash flow. The pay as you go (PAYG) instalment system helps you pay PAYG instalments towards your expected tax payable, making it easier to manage your finances and avoid surprises at tax time.
What Are PAYG Instalments?
PAYG instalments are regular payments you make throughout the income year towards your estimated income tax. Instead of waiting until your income tax return is assessed, you pay PAYG instalments based on your business and investment income as you earn it. This approach helps you avoid a large tax bill when you lodge your tax return.
The PAYG instalment system is different from PAYG withholding. While PAYG withholding is about employers withholding tax from payments to employees, PAYG instalments focus on income tax from business or investment income earned by individuals, sole traders, companies, trusts, and other entities.
Who Needs to Pay PAYG Instalments?
You may need to pay PAYG instalments if your business income or investment income meets certain thresholds set by the Australian Taxation Office (ATO). For individuals and trusts, you become liable to pay PAYG instalments if your instalment income is $4,000 or more, your notional tax is $500 or more, and your tax payable on your latest notice of assessment is $1,000 or more. For companies, super funds, and other entities, there are different rules and thresholds, including special rules for a consolidated group or head company.
The ATO will notify you if you are required to enter the PAYG instalment system, usually through an instalment notice or via online services. You can also choose to voluntarily enter the PAYG instalment system if you expect to have tax payable on your business or investment income.
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How the PAYG Instalment System Works
The PAYG instalment system is designed to make paying your income tax easier by breaking it down into manageable amounts throughout the year. Here’s how it works in practice.
Step 1: Entering the System
Most taxpayers are automatically entered into the PAYG instalment system when their business or investment income meets the ATO thresholds. The ATO will send you an instalment notice or update your online services account with your PAYG instalment details. If your circumstances change, such as a significant change in your income, you may need to vary your PAYG instalment amount.
Step 2: Making Regular Payments
You pay PAYG instalments quarterly, with each instalment period ending on the last day of September, December, March, and June. The due date for each payment is usually the 28th of the following month. You can pay PAYG instalments using the instalment amount or the instalment rate method, depending on what the ATO has assessed for you.
Instalment amount: The ATO provides a set dollar amount for you to pay each quarter, based on your latest assessment and notional tax.
Instalment rate: The ATO gives you a percentage rate, which you apply to your business and investment income for the quarter to work out your PAYG instalment amount.
You can pay your PAYG instalment through online services, by mail, or using other payment methods offered by the ATO.
Step 3: Reconciling at Tax Time
The PAYG instalments you’ve paid during the financial year are credited against your total tax payable when you lodge your annual income tax return. If you have paid more than your tax assessed, you may receive a credit or refund. If you have paid less, you will need to pay the balance. This process helps you stay on top of your income tax without facing a large tax bill all at once.
How PAYG Instalment Amounts Are Calculated
Understanding how your PAYG instalment amount is calculated helps you plan your payments and manage your cash flow more effectively.
The ATO’s Calculation Methods
The ATO uses information from your previous income tax return to estimate your PAYG instalment amount. They may apply an adjustment factor, such as a GDP adjustment, to account for changes in the economy. The instalment amount method gives you a set payment for each instalment period, while the instalment rate method allows you to calculate your payment based on your actual business and investment income for the quarter.
For example, if your business income or investment income increases or decreases significantly during the year, you can use the instalment rate to calculate a more accurate PAYG instalment amount. If you believe your income or deductions will be different from last year, you can vary your PAYG instalment by lodging an activity statement and providing a reasonable estimate.
Benefits of PAYG Instalments for Cash Flow Management
Paying PAYG instalments offers important benefits for managing your business or investment income and keeping your cash flow steady.
Avoiding a Large Tax Bill
By making regular PAYG instalment payments, you reduce the risk of facing a large tax bill when you lodge your income tax return. This helps you avoid financial stress and makes it easier to plan for other expenses.
Smoother Budgeting and Planning
PAYG instalments allow you to spread your tax payable over the financial year, making it easier to budget for each instalment period. This is especially helpful for sole traders, small business owners, and anyone with fluctuating business or investment income.
Reducing Interest and Penalties
If you pay your PAYG instalments on time and accurately, you can avoid interest charges and penalties from the ATO. If you underpay or pay late, you may be liable for interest or penalties, so it’s important to keep track of your due dates and payments.
Managing PAYG Instalments Effectively
To get the most value from the PAYG instalment system, it’s important to actively manage your payments and keep your records up to date.
Monitoring and Varying Your Instalments
If you experience a significant change in your business or investment income, you can vary your PAYG instalment amount by lodging an updated activity statement. This flexibility helps you avoid overpaying or underpaying your tax. However, if you vary your instalment down and end up with a higher total tax payable, you may be charged interest.
Setting Aside Funds for Each Instalment
Consider setting aside a portion of your business or investment income regularly so you’re ready to pay each PAYG instalment by the due date. This approach can help you avoid cash flow issues and make each payment on time.
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Real-World Examples of PAYG Instalments in Action
Seeing how PAYG instalments work in practice can help clarify the process. Here are two examples:
Example 1: Investment Property Owner
Rob earns investment income from three rental properties. His business and investment income after deductions is $49,500, and his estimated tax payable is $7,544 for the income year. The ATO sends him an instalment notice with a PAYG instalment amount of $1,886 per quarter. By paying these instalments throughout the year, Rob avoids a large tax bill when he lodges his annual income tax return.
Example 2: Sole Trader Business Owner
Danielle is a sole trader with business income of $100,000 and deductions of $10,000. Her estimated total tax payable is $20,437 for the financial year. She receives an instalment notice from the ATO and pays PAYG instalments of $5,109 each quarter. When she submits her tax return, her PAYG instalments are credited against her total tax payable, reducing her final payment.
Conclusion
The PAYG instalment system is a practical way to manage your income tax obligations on business and investment income. By making regular PAYG instalment payments, you avoid large tax bills, improve your budgeting, and reduce the risk of penalties or interest. You can also vary your instalments if your income changes, giving you flexibility as your business or investment income grows.
If you need help understanding your PAYG instalment notice, calculating your instalment amount, or managing your payments, our team at ACT Tax Group is here to support you. We help you stay on top of your tax obligations, so you can focus on growing your business or investments with confidence.
