Who Needs To Pay Estimated Taxes?
Estimated tax payments are not only for the self-employed. Individual taxpayers may also pay quarterly installments of estimated tax.
If you have income from stock sales, property sales, investments, alimony, partnerships, S-corporations, retirement or pension plans, or other sources of income where taxes are not withheld, you may also be required to pay either estimated taxes or run the risk of an underpayment penalty. Taxpayers who are employees and have wage income, Social Security, and Medicare taxes withheld from their wages generally do not need to make estimated tax payments.
If an individual's tax liability that exceeds any withholdings is less than $1,000, then they may not be required to make estimated tax payments. If you expect a tax liability that exceeds your withholdings and credits by more than $1,000, your tax preparer should be calculating estimated tax payments for you. Anyone who pays too little tax, usually less than 90% of your total tax due, may face estimated tax penalties. Making quarterly estimated tax payments is a proper way to protect a taxpayer from underpayment penalties.
Underpayment Tax Penalties
If a taxpayer bases their estimated tax payments on last year’s taxes, the taxpayer won’t incur a tax penalty if they make payments equal to the lesser of 90% of the tax to be shown on their current year return or 100% of the tax shown on their prior-year return.
An estimated tax penalty does not apply if the tax due on a return (after withholding and refundable credits) is less than $1,000; this is the “de minimis amount due” exception. When the tax due is $1,000 or more, underpayment penalties may be assessed.
The underpayment penalties are determined on a quarterly basis, so an underpayment of estimated taxes in an earlier quarter cannot be made up for in a later quarter’s payment. However, withholding (on wages for example) is treated as being paid ratably throughout the year. Therefore, increasing withholding in the later part of the year can help make up for underpayments of estimated tax in earlier periods of the year. On the contrary, overpaying estimated taxes in an earlier quarter is carried forward and applied to the later quarters.
It’s not always so simple to determine if you will owe $1,000 or more in taxes. Consult your tax professional to perform a year-end tax projection, or use the IRS’s worksheet to help you estimate your taxes.
What’s The Penalty?
In 2024, the penalty for not making your estimated tax payments is about 0.66% per month of the amount you should be paying if your income is similar to the previous year. Essentially, NOT paying quarterly taxes is like taking a loan from the IRS at an 8% interest rate.
How are Estimated Tax Payments Calculated?
The amount of Federal estimated tax payments are determined by estimating one-fourth of the taxpayer’s tax liability in excess of withholdings and credits for the entire year. The projected tax is paid in four installments to the IRS. California estimated tax payments are made in installments of 30%, 40%, and 30% with no payment in September each year.
For individuals who do not want to take the time to estimate their quarterly taxes but still want to avoid the underpayment penalty, the IRS provides safe-harbor estimates. However, even these can become tricky. Generally, taxpayers can avoid an underpayment penalty if their withholding and estimated payments are equal to or greater than:
90% of the current year’s tax liability or
100% of the prior year’s tax liability.
However, these safe harbors do not apply if the prior year’s adjusted gross income is over $150,000, in which case, the safe harbors are:
90% of the current year’s tax liability or
110% of the prior year’s tax liability.
Thus, a true safe harbor, regardless of the current year’s tax liability, would be withholding and estimated tax payments equal to or greater than 110% of the prior year’s tax liability.
Sometimes, individuals who have withholding on some (but not all) of their sources of income will increase that withholding to compensate for the additional income sources that have no withholding. Although this may work, withholding adjustments are not as precise as quarterly payments and should be used with caution.
When to Make Estimated Tax Payments?
Although these payments are called “quarterly” estimates, the periods they cover do not coincide with a calendar quarter. Estimated tax payment deadlines usually fall around the following dates:
* If the due date falls on a Saturday, Sunday, or holiday, the payment is due on the next business day.
How do you Pay Estimated Tax Payments?
The fastest and easiest way to make estimated tax payments is electronically using the IRS Direct Pay. Most states require quarterly estimated tax payments, so be sure to check your state’s tax rate and make those payments as well.
This office can assist you in estimating payments, adjusting withholding, and setting up safe-harbor payments. Please call for assistance.
Disclaimer: All content and information provided is for general educational purposes only and should not be considered professional financial or accounting advisory. For tailored guidance related to your situation, consult with a qualified business advisor.
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