Paying taxes is a responsibility all taxpayers share, but for individuals, sole proprietors, partners, and S corporation shareholders, it often requires a bit more planning. These taxpayers frequently need to make estimated tax payments to avoid penalties, especially if they expect to owe $1,000 or more when filing their return.
In this article, we break down what estimated tax payments are, who must make them, how to calculate them, and the key dates to keep in mind.
What Are Estimated Tax Payments?
Estimated tax payments are periodic payments made to the IRS throughout the year to cover income taxes, self-employment taxes, and other related taxes that aren’t automatically withheld from income.
This is common for:
- Self-employed individuals who don’t have taxes withheld by an employer.
- Partners and shareholders of S corporations who receive pass-through income.
- Individuals earning income from interest, dividends, rental properties, or capital gains.
If you fall into one of these categories, making timely estimated tax payments is crucial to staying compliant and avoiding interest or penalty charges.
Who Needs to Pay Estimated Taxes?
The IRS generally requires estimated tax payments if both of the following conditions apply:
- You expect to owe $1,000 or more in taxes when filing your return.
- Your withholding and refundable credits are less than the smaller of:
- 90% of the tax you owe for the current year.
- 100% of the tax shown on your prior year’s return (if your prior year adjusted gross income was $150,000 or less; $75,000 if married filing separately). For higher-income taxpayers, the threshold increases to 110% of the prior year’s tax.
How to Calculate Estimated Taxes
To calculate your estimated taxes, you can use Form 1040-ES, which includes worksheets to help you determine your payment amount.
Here’s a step-by-step outline:
Step 1. Estimate Your Total Income: Add up income from all sources, such as self-employment, investments, and side gigs.
Step 2. Calculate Taxable Income: Subtract deductions like the standard deduction or itemized deductions.
Step 3. Determine Your Tax Liability: Use the tax brackets applicable to your filing status to calculate your tax.
Step 4. Account for Credits and Withholdings: Subtract any credits and withholdings from the total. The remaining amount is what you’ll need to cover through estimated tax payments.
It’s worth noting that self-employed individuals must also pay self-employment tax (Social Security and Medicare taxes).
How to Make Payments
The IRS offers several convenient options for making estimated tax payments:
- Online via IRS Direct Pay or the Electronic Federal Tax Payment System (EFTPS).
- By mail using Form 1040-ES payment vouchers.
- Through the IRS2Go mobile app.
When making payments, always keep records of your transactions to simplify reconciliation at the end of the tax year.
Filing and Payment Deadlines
Estimated tax payments are typically due quarterly. For 2024, the deadlines are as follows:
April 15, 2024: First quarter payment for income earned January 1 – March 31.
June 17, 2024: Second quarter payment for income earned April 1 – May 31.
September 16, 2024: Third quarter payment for income earned June 1 – August 31.
January 15, 2025: Fourth quarter payment for income earned September 1 – December 31.
If the due date falls on a weekend or holiday, the deadline is extended to the next business day.
What to Expect
Making estimated tax payments helps avoid penalties, but there are still a few things to keep in mind.
Penalties for Underpayment
If you don’t pay enough in estimated taxes during the year, you may face an underpayment penalty. The IRS calculates this penalty based on the shortfall amount and how late the payment was made.
Overpayments
If you overpay your estimated taxes, you’ll have the option to apply the overpayment to your next estimated tax installment or receive a refund when filing your annual return.
Adjustments During the Year
Income fluctuations are common for self-employed individuals and small business owners. If your income significantly increases or decreases, you can adjust your estimated payments accordingly by recalculating your tax liability using Form 1040-ES.
Why Estimated Taxes Matter
Failing to make estimated tax payments can lead to hefty penalties and financial stress at tax time. By planning ahead and staying informed, you can avoid surprises and stay in good standing with the IRS.
The benefits of compliance include peace of mind – as avoiding IRS penalties means one less thing to worry about – and more effective financial planning, as making regular payments help you manage cash flow and plan for tax liabilities.
Tips for Managing Estimated Tax Payments
Keep these tips in mind when developing and planning your estimated tax payment strategy.
Keep Detailed Records: Maintain thorough records of your income and payments throughout the year.
Use Accounting Software: Tools like QuickBooks or similar software can simplify income tracking and tax calculations.
Consult a Tax Professional: If your financial situation is complex, working with a tax expert ensures accuracy and compliance. Traxion Tax is available to consult with you about your tax situation, including cases where back tax liability is a concern.
Looking Forward
For individuals, sole proprietors, partners, and S corporation shareholders, estimated tax payments are a critical part of tax planning. By understanding the rules, adhering to payment deadlines, and staying on top of calculations, you can navigate the process confidently and avoid unnecessary penalties.
If you have questions about your tax obligations or need assistance with calculations, contact us today.
Proper planning today can save you from headaches tomorrow!