I just lodged my tax return — why is the ATO now asking me to prepay next year's tax?

You lodged in July, the notice of assessment came back, and that was meant to be the end of tax for another year. Then a letter turns up in the myGov Inbox: you have entered the pay as you go instalments system, here is your quarterly amount, first payment due 28 October. Nothing on the assessment mentioned it. Nobody asked. And the number is large enough that the first reaction is usually that something has gone wrong.

Nothing has. But the letter is genuinely badly timed, because the decisions that matter — which calculation method you use, and whether the amount needs adjusting — are made on the first activity statement of the year, and most people only start reading about it once three quarters have already been paid.

Why the letter arrived at all

The ATO works out whether you need to pay instalments from the return you have just lodged. For an individual, including a sole trader, or a trust, entry is automatic when all three of the following are true: instalment income from your latest tax return of $4,000 or more, tax payable on your latest notice of assessment of $1,000 or more, and estimated (notional) tax of $500 or more.

Instalment income is the term doing the work there. The ATO defines it as your gross business and investment income, excluding GST and any capital gains — gross, so before any of the deductions that shrank it on the return. Rent counts at the full amount your tenant paid, not what was left after the interest and the rates. Dividends, distributions and interest count. A capital gain on a property or a parcel of shares does not.

That combination catches one type of person very reliably: the salaried employee who bought an investment property or built up a share portfolio, and the sole trader whose side business finally produced a tax bill instead of a refund. If you are registered with myGov and it is linked to the ATO, the letter arrives in your myGov Inbox; through Online services for business you receive the instalment information 21 days before the due date; otherwise it comes by post, with an SMS reminder if the ATO holds your mobile number.

It is not an extra tax, and it does not change what you owe

This is the part worth getting straight before anything else. The ATO states it plainly: whichever option you use, it will not change how much income tax you pay for the year. When you lodge your return, the instalments you have paid are credited against your income tax liability — excess is refunded to you, and any shortfall is still payable.

So instalments change the timing, not the total. It is the same machinery that already applies to wages, where an employer withholds tax from every pay so there is no bill in October. Once you earn income nobody withholds from, the ATO asks you to do the withholding yourself, four times a year. For a standard income year the quarterly due dates are 28 October for July–September, 28 February for October–December, 28 April for January–March and 28 July for April–June. If you receive an activity statement and lodge it online you may be eligible to lodge and pay two weeks later than those dates; if you receive an instalment notice and simply pay the amount shown, you do not need to lodge it at all.

Two ways of working out the number — and you pick once a year

Option 1 is the instalment amount: the ATO calculates a figure from your latest return and you pay it, with nothing to work out. Option 2 is the instalment rate: the ATO gives you a percentage, you enter your actual instalment income for the quarter, and multiply. The second option suits income that moves around a lot, because the payments rise and fall with the income instead of being fixed to last year's.

Where people get caught is that the choice sticks. If both options appear on your activity statement, you choose when you lodge and then keep using that option for the rest of the financial year. Changing your mind is possible, but not until the first activity statement of the next financial year — which is why the statement due 28 October is worth ten minutes rather than a single click.

The mistake that costs money: varying it down to nothing

The instalment is built from last year's figures, so when this year looks materially different — the business is quieter, the property sat empty for two months, the shares were sold — the amount can genuinely be too high. Varying it is allowed, and the ATO tells you how. The timing is strict: you make the variation when you lodge your activity statement or instalment notice, on or before the day the instalment is due, and before you lodge your tax return for the year. The varied figure then applies to the remaining instalments for that year, or until you vary again.

The trap is at the other end. When your return comes in, the ATO compares the instalments you actually paid against the total tax payable on your instalment income. If your varied instalments come to less than 85% of that figure, you may have to pay a general interest charge on the difference on top of the shortfall itself, and depending on the circumstances there may also be penalties. That charge stings more than it used to: since 1 July 2025 the general interest charge is no longer deductible, which we covered separately. The ATO's own guidance is unusually direct about the safer path — if you are not sure, it is best not to vary, because any overpaid instalments are refunded to you once the return is lodged.

The other mistake: assuming you are now stuck with it

Instalments are not permanent. The ATO removes individuals automatically in a number of situations, including where the return reports business and investment income of less than $4,000, where the tax debt on the assessment is under $1,000 after adjusting for instalments and voluntary payments, where the calculated instalment rate is 0.0%, or where estimated notional tax is under $500. If the income has genuinely stopped, you can also ask to exit through myGov under Tax, then Manage, then Tax registrations, then Cancel — an option that only appears once you are eligible.

Worth knowing for the opposite case too: if you are new to business or investment income and can see a bill coming, you can enter voluntarily rather than waiting for the ATO to enter you a year later, which is usually the difference between four manageable payments and one uncomfortable one.

One change is already on the calendar. From 1 July 2027 the ATO will offer Dynamic PAYG instalments, letting businesses opt into an ATO-approved calculation built into accounting software so payments track current conditions rather than last year's return. The draft compliance guideline, PCG 2026/D3, is open for feedback until 28 August 2026.

So the short version, current as at August 2026: the letter is not a bill for extra tax, the first payment for this year falls due 28 October, the method you choose on that first statement is locked in until July, and varying downwards is a decision with an 85% line under it rather than a free adjustment. If the figure looks wrong, the useful question is not whether to pay it but which of the two options fits the income you are actually expecting this year.

This is general information rather than advice about your circumstances, and whether a variation is sensible depends on facts that differ case to case — what the income is doing this year, what deductions sit behind it, and what else is already in the assessment. Our income tax calculator will show you what a full year of that income is likely to attract in tax, which is the number an instalment is trying to spread; setting up and reviewing instalments is part of our work on individual tax returns and for sole traders and side businesses.