The IRS requires taxpayers to pay their taxes for a given year in that year. For taxpayers who are employees of companies, their employers must withhold income tax from each paycheck and report it on a Form W-2 early in the following year. If your employer withholds too much, you get a refund. If it withholds too little, you owe taxes. Either way, you can fine-tune your status by filing a new Form W-4 with your employer, as well as any appropriate state tax form.
Paying Estimated Taxes
Estimated tax payments are used to pay income tax and self-employment tax, as well as other taxes and amounts reported on your tax return.
Taxpayers who work freelance, for example, do not have income tax withheld from the income they generate by invoicing clients. They must follow a different route for paying their taxes, and they cannot just wait until April 15 for an accounting of the previous calendar year.
These taxpayers must file their estimated taxes on a quarterly basis: April 15, June 15, September 15, and January 15. (If any of those dates fall on a weekend or a federal holiday, they are due on the first business day after the due date.)
Avoiding Penalties
With some exceptions, failure to have enough taxes withheld could result in a tax penalty. Notes the IRS: “We calculate the penalty separately for each required installment. The number of days late is first determined and then multiplied by the effective interest rate for the installment period.” For more information on the penalty interest rates visit the IRS online.
Under the IRS Code, the rate of interest is determined on a quarterly basis. For taxpayers other than corporations, the overpayment and underpayment rate is the federal short-term rate plus three percentage points. Generally, in the case of a corporation, the underpayment rate is the federal short-term rate plus three percentage points and the overpayment rate is the federal short-term rate plus two percentage points.
For the fourth quarter 2023 and the calendar quarter beginning January 1, 2024, the penalty rate of overpayments is 8%.
Fourth quarter 2023 estimated taxes (payment period September 1 through December 31) are due on January 16, 2024.
First quarter 2024 taxes (payment period January 1 through March 31) are due April 15. Note: If the due date for making an estimated tax payment falls on a Saturday, Sunday, or legal holiday, the payment will be on time if made on the next day that’s not a Saturday, Sunday, or legal holiday.
Three ways to avoid the estimated tax penalty:
- Pay at least 90% of the current year’s tax liability due.
- Pay at least 100% of the prior year’s tax liability or 110% if your adjusted gross income (AGI) for the prior year exceeded $150,000. (These amounts may be tweaked in future years.)
- Pay at least 90% of the current year’s “annualized income.” Taxpayers who do not receive income evenly over the course of the year, such as snowplow drivers, may use this method by completing Form 2210, Schedule AI.
The penalty may be waived if either of the following occurred:
- The failure to make estimated payments was caused by a casualty, disaster, or other unusual circumstance and it would be inequitable to impose the penalty.
- You retired (after reaching age 62) or became disabled during the tax year for which estimated payments were required to be made or in the preceding tax year, and the underpayment was due to reasonable cause and not willful neglect.
In addition, no penalty is assessed if either of the following occurs:
- The total tax shown on your return minus the amount you paid through withholding is less than $1,000.
- You had no tax liability in the previous year.
This is just a summary. Tax rules may change. To learn more about estimated taxes and penalties visit the IRS site and seek the advice of a qualified tax professional.
HAVE QUESTIONS?
If you need assistance or have any questions on the information in this article, please call your CironeFriedberg professional. You can reach us by phone at (203) 798-2721 (Bethel), (203) 366-5876 (Shelton), or (203) 359-1100 (Stamford) or email us at info@cironefriedberg.com.
