What are estimated tax payments?
Estimated tax payments are required for individuals who expect to owe at least $1,000 in tax after subtracting tax withholding and refundable credits. These payments are generally due on a quarterly basis. These due dates are listed below:
- Q1 – April 15
- Q2 – June 15
- Q3 – September 15
- Q4 – January 15 of the following year
Taxpayers who are self-employed do not have taxes withheld from their pay. Therefore, they must make estimated tax payments if their taxes will be $1,000 or more for that year. If estimated tax payments are not paid timely, taxpayers can incur estimated tax penalties.
An example of what you might expect in Estimates Tax Penalties:
This taxpayer’s filing status is single. They are not claiming any dependents. Their net income from self-employment is $50,000, and hey have no other income or deductions. Their breakdown of tax is below:
- Income Tax: $2,825
- Self-Employment Tax: $7,065
- Total Tax: $9,890
Taxpayers MUST pay at least 90% of tax due, which, in this example is $8,901. This is approximately $2,225 per quarter.
In this example, the taxpayer DID NOT make any estimated tax payments. The estimated tax penalty is about 4.5% of the total tax.
The form used to pay federal estimated tax payments is called form 1040ES. On this form, you ONLY make a payment. You are not disclosing any income or filing on the form. It is a pay-as-you go requirement.
Just as an employer is required to pay payroll taxes quarterly you as the self-employed individual are required to make estimated tax payments.
The estimated tax payments you make will be reconciled with your tax return once filed.
If you did NOT make estimated tax payments, pay enough, and or not pay them timely you will be subject to an estimated tax penalty. You will include on your tax return form 2210 which will calculate the penalties for not paying the estimated tax payments. There are some exclusions to the penalty.
Consequences of not paying estimated taxes
Failing to make estimated tax payments—or underpaying them—can result in several challenges for taxpayers:
1. Underpayment Penalties
The IRS imposes penalties for failing to pay enough tax during the year. The penalty amount depends on how much was underpaid and how late the payment is. These penalties can accrue over time, adding up to a significant sum if left unaddressed.
2. Interest on Unpaid Taxes
In addition to penalties, taxpayers may owe interest on unpaid taxes. The IRS calculates interest daily based on the federal short-term interest rate plus 3%. This can make the final tax bill larger than initially anticipated.
3. Larger Tax Bill at Filing Time
When estimated tax payments are missed, the taxpayer may face a larger-than-expected tax bill when filing their annual return. This can be financially burdensome and may lead to difficulties in paying the owed amount in a lump sum.
4. Strained Financial Planning
Failing to budget for estimated tax payments can disrupt financial plans, especially if a large tax bill or penalties catch the taxpayer off guard. This can be particularly problematic for self-employed individuals or those with fluctuating incomes.
Exceptions and relief from penalties
While the IRS is strict about estimated tax payments, there are some exceptions and relief provisions:
1.Safe Harbor Rule
Taxpayers can avoid penalties if they pay either:
– 90% of the current year’s tax liability, or
– 100% of the previous year’s tax liability (110% for higher earners).
2. Waiver for Unusual Circumstances
The IRS may waive penalties if the taxpayer missed payments due to unforeseen events, such as a natural disaster or medical emergency.
3. First-Year Exemption
If a taxpayer didn’t owe taxes in the prior year, they might not be required to make estimated payments in the current year.
How to avoid issues
To stay on top of estimated tax payments:
- Calculate Accurately: Use IRS Form 1040-ES or consult a tax professional to estimate your tax liability.
- Set Reminders: Note the quarterly due dates to ensure payments are made on time.
- Adjust Payments as Needed: If your income changes during the year, adjust your payments accordingly to avoid underpayment penalties.
If you have any questions, contact our team of Abacus Professionals at 417.380.5000.
