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Estimated taxes: who must pay and due dates

Estimated taxes: who must pay and due dates
Disclaimer

This article is for informational purposes only and does not constitute legal or tax advice.

Always consult with a tax professional for your specific circumstances.

Understanding estimated taxes can feel like navigating a maze, especially for those new to the concept.

Whether you're a freelancer, small business owner, or simply someone with income not subject to withholding, knowing how and when to pay estimated taxes is crucial.

Let's dive into the ins and outs of estimated tax payments to help you stay compliant and avoid any unwelcome surprises from the IRS.

What are estimated tax payments?

Estimated tax payments are periodic payments made throughout the year on income not subject to withholding.

This includes earnings from self-employment, interest, dividends, rental income, and capital gains.

Essentially, if you're receiving income that isn't automatically taxed, you'll need to make estimated tax payments to cover your federal tax liability.

Why are they important?

The IRS operates on a "pay-as-you-go" system, meaning taxes must be paid as income is earned or received.

Failing to make timely estimated tax payments can result in penalties, even if you expect to receive a refund when you file your annual return.

As the saying goes, "An ounce of prevention is worth a pound of cure," and in this case, timely payments are your best preventive measure against penalties.

Who needs to pay estimated taxes?

Not everyone needs to make estimated tax payments.

Here’s a quick rundown of who does:

  • Individuals: Generally, if you expect to owe $1,000 or more in taxes after subtracting withholding and credits, you should make estimated payments.
  • Corporations: If a corporation expects to owe $500 or more, estimated payments are required.

Exceptions to the rule

There are specific scenarios where estimated tax payments might not be necessary.

For instance, if you had no tax liability last year, were a US citizen or resident for the entire year, and your previous tax year was a full 12 months, you might be off the hook.

How to calculate estimated tax payments

Calculating your estimated tax payments involves a bit of foresight.

You need to estimate your adjusted gross income, taxable income, taxes, deductions, and credits for the year.

Sounds like a lot? Let's break it down:

  1. Use last year’s tax return: Start with your previous year’s federal tax return. It provides a helpful baseline for estimating your current year’s taxes.
  2. Form 1040-ES: This form includes a worksheet to help you calculate your estimated tax. It’s your go-to resource for figuring out your quarterly payments.
  3. Adjust for changes: Account for any changes in your income, deductions, or credits. Life events like a new job, a raise, or a significant investment gain can impact your tax liability.

When are estimated tax payments due?

For tax purposes, the year is divided into four payment periods, each with its own due date:

  • Q1: April 15
  • Q2: June 15
  • Q3: September 15
  • Q4: January 15 of the following year

NB! Mark these dates on your calendar! 

Missing a payment can lead to penalties, even if you eventually pay the full amount by the year's end.

How to make estimated tax payments

The IRS provides several convenient options for making estimated tax payments:

Consequences of underpayment

If you don’t pay enough tax throughout the year, you may face a penalty.

Generally, you can avoid the penalty if you pay at least 90% of the tax for the current year or 100% of the tax shown on your previous year's return (110% for higher income taxpayers).

However, if your income fluctuates, you might consider annualizing your income to make unequal payments using Form 2210.

Special rules for farmers, fishermen, and high-income taxpayers

Estimated tax rules have exceptions for certain taxpayers:

  • Farmers and fishermen: If at least two-thirds of your gross income comes from farming or fishing, you have special provisions for estimated tax payments.
  • High-income taxpayers: If your adjusted gross income is more than $150,000 ($75,000 if married filing separately), you must pay 110% of your previous year’s tax to avoid penalties.

Tips to simplify estimated tax payments

Some practical tips to help you manage your quarterly tax obligations effectively and avoid potential penalties:

1. Automate payments

One of the easiest ways to ensure you never miss a payment is to set up automatic payments through the Electronic Federal Tax Payment System (EFTPS).

This secure government service allows you to schedule payments in advance, providing peace of mind and ensuring you stay compliant with IRS deadlines.

2. Keep accurate records

Maintaining meticulous records of all income and expenses is crucial for accurate quarterly tax estimates.

Here’s how to stay organized:

  • Use accounting software: Tools like FreshBooks can help track income and expenses automatically.
  • Save receipts and invoices: Keep digital or physical copies of all financial transactions related to your business or freelance work.
  • Regularly update your records: Schedule a weekly or monthly review of your financials to stay on top of any changes.

3. Consult a tax professional

If estimated tax payments seem daunting, don’t hesitate to seek professional help. A CPA or tax advisor can offer personalized guidance tailored to your specific situation.

Here’s why consulting an expert can be beneficial:

  • Expertise: Tax professionals are well-versed in the latest tax laws and can help you maximize deductions and credits.
  • Accuracy: They ensure your estimates are accurate, reducing the risk of penalties.
  • Strategic planning: A tax advisor can assist in long-term tax planning, helping you save money in the long run.

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Final thoughts

Estimated tax payments are an essential aspect of managing your tax obligations, particularly if you have income not subject to withholding.

By understanding the requirements, calculating payments accurately, and staying on top of due dates, you can avoid penalties and ensure a smoother tax season.

Ines Zemelman, EA
Founder of TFX