Tens of thousands of PPI claimants may be hit with heavy fines, after it was revealed by tax authorities that many have failed to make their annual contributions on the interest aspect of their compensation.
According to the Association of Charted Certified Accountants, many PPI compensation recipients have been unaware that they are lawfully obliged to pay tax on the 8% interest that is attached to their payout.
Unlike other forms of compensation, PPI payouts typically comprise of the main lump sum and an additional 8% interest paid on an annual basis.
The tax brackets for the interest work in the same way as conventional taxation, so the countryís top earners are obliged to pay 40% to 50% on their interest whilst the lowest earners only have to pay 20% on it.
Nevertheless, all are obliged to make their payments, and the lack of clarification about the issue has meant that over a million more people are yet to settle their tax bill this year compared to last, rising to an estimated 10.5 million.
Chas Roy-Chowdhury, the head of taxation at the Association of Charted Certified Accounts, called for people to get into contact with tax offices in order to resolve the issue, but has urged the government to be lenient on this occasion due to the lack of previous clarification about the matter.
Mr Roy-Chowdhury said: "People need to pay tax on any interest they received. Many people may not realise that.
"We have called on the Government not to tax this interest."
Payment Protection Insurance (PPI), was frequently sold on top of personal loans, credit cards and other banking products in the first decade of this millennium, though many recipients have claimed in recent times that they were mis-sold the insurance and were not made aware that it was of no use to them.
The result has been that banks have collectively forked out over £12 billion in PPI compensation for recent and backdated claims, with the oldest claims usually paying out the highest interest sums due to the 8% annual charge.
And although all banks leave a notice to all compensation recipients that they are lawfully obliged to pay tax on their interests, confusion has arisen due to the different in systems between PPI interest and savings account interest taxation.
With savings accounts, all interest for low earners is taxed at 20%, with those on higher annual incomes obliged to declare and make their payments to the HMRC for larger sums by January.
However, taxation on the 8% PPI interest payments often works in a different manner, which explains why such a higher number of people are yet to settle their tax for the tax year 2013.
An HMRC spokesman said: "The interest may or may not have had tax already deducted depending on the type of company making the payment of the interest.
"If banks and building societies are paying the interest then there is no obligation on them to deduct tax because the interest is not interest on a deposit and there are specific exemptions for banks and building societies from the need to deduct tax from yearly interest.
"All other companies have an obligation to deduct tax from yearly interest when it is paid. If a company does deduct tax then there is a statutory requirement that it advises the customer when making the payment that tax has been deducted and the gross and net amounts of interest."
However, the spokesperson urged all who are currently in arrears with their tax payments to get into contact with the tax office and making their payments directly, as the one-off aspect of interest payments means that it is most likely unnecessary for them to hand in a self-assessment.
What you should do
So the likelihood is that so long as you have the relevant documents in your possession at the moment about your PPI payouts, you should be able to avoid a fine if you get into contact with the tax office immediately. Make sure you have details of your annual income, so that they can quickly ascertain how much tax you are obliged to pay, and have documents you can send them to clearly display how much interest you received on your PPI this year. Ensuring this will make sure that your tax difficulties reach a swift resolution, and you avoid further fines that many of your less proactive counterparts may be hit with.
If you are someone who currently has an annual income below the personal allowance bracket, then there is a big chance that you will not have to pay tax on your interest payout. If the HMRC have asked you to, or have taken tax from your interest payout, then get into contact with them and see if you are entitled to a tax refund.
Low income workers who are on the 20% tax rate will be able to resolve their PPI difficulties by simply making their payment and sending in their tax return. Remember, if you are yet to pay interest on your PPI payout, then it is pivotal that you report this to the HMRC, and they should be able to point you in the right direction so you arenít hit with any unnecessary fines in the next few months.