Some taxpayers hate making estimated payments. Some taxpayers avoid it. Others dread the day they might have to make them. In reality, though, estimated payments are really not that much different than paycheck withholdings for W-2 employees. For every paycheck received, Medicare, FICA, State, Federal, etc. is withheld from the employee’s earnings. That money is sent off to the appropriate organization and a credit is given to the employee for payments made and are called “Withholdings.” When that employee completes their annual tax return, they will enter the amount withheld. If total tax due is less than the amount withheld, the balance is returned to the employee in the form of a refund. If the amount is more, a balance is due.
For those taxpayers making estimated payments, a payment is made quarterly (instead of each pay period) and instead of being withheld from a paycheck it is paid directly from the taxpayer to the Federal and/or State government. Just like with W-2 employees, when taxes are filed it may be determined that the taxpayer overpaid, and a refund will be issued. Similarly, if underpayment is discovered then a balance is due.
See? Estimated payments really aren’t all that bad! Keep reading to learn more about the Who’s, What’s, When’s, Where’s, Why’s and How’s of estimated payments.
Who must make estimated payments?
Those taxpayers who expect to owe at least $1,000 in tax for the year and will have less than the expected amount withheld from their paycheck (W-2 employees) should make estimated payments. Additionally, most self-employed and 1099-receiving taxpayers should also make estimated payments throughout the year. Note that if you are a W-2 employee who has earnings outside of your regular job (such as investments, inheritance, a side-job, etc) you may still need to pay estimated tax in addition to what is being withheld from your paychecks.
What are estimated payments?
Estimated payments are not a prepayment of tax liability, despite what most people think. Income taxes are technically due as the money is earned/received. This is known as a pay-as-you-go system. In other words, taxes are not due April 15th (even though tax returns are) – they’re due periodically throughout the year. Hence estimated payments are timely payments of the tax you believe you will owe over the entirety of the year.
When are estimated payments due?
Estimated payments are made four times throughout the year. Due dates are as follows:
|January 1 - March 31||April 15th|
|April 1 - May 31||June 15th|
|June 1 - August 31||September 15th|
|September 1 - December 31||January 15th (of following year)|
Where do you make estimated payments?
You have many options for making your federal estimated payments - learn more here:
- Mailing check or money order to the Internal Revenue Service
- By phone
- Through IRS.gov by setting up direct pay with your bank account or with a debit/credit card
You may also be required to make estimated payments to the state. Note that if you live and work in separate states you may be required to make payments in one or both states. Check with your tax preparer or your state’s Department of Revenue for payment options and instructions.
Why should you make estimated payments?
First and foremost, estimated payments prevent the need to pay a large tax bill at the time you file your return. You can wait until April 15th each year to give the IRS their cut, but which sounds easier: writing 4 checks for $2,500 or 1 check for $10,000?
The second reason is the pay-as-you-go system we mentioned earlier. Tax isn’t due April 15 – it’s due as it’s earned. This means that without estimated payments being made, or adequate amounts being withheld from paychecks, you may have to pay penalties even if you pay your tax liability by April 15th each year. If total tax due after estimated payments and withholdings is less than $1,000 then penalties are typically avoided.
How are estimated payments calculated?
If you expect no significant changes in household income and deductible expenses from a previous year, you can divide the total tax liability calculated on your previous tax return by 4 to get your payments for the current year (this may not work for tax year 2017-2018 due to tax law changes). If you have changed jobs, gotten married (changing your household income and filing status), had children, made investments, etc., then calculating estimated payments will likely be more complicated. In this situation payments can be calculated by estimating your income for the coming year, calculating the taxable income, calculating the tax on that amount, and dividing that tax liability into 4 equal payments. It is recommended that you check with your tax preparer to more accurately calculate your expected tax liability.
The IRS generally recommends that taxpayers make their estimated payments in 4 equal payments due on April 15, June 15, September 15, and January 15. However, there are exceptions. For example, maybe you work in an industry that is seasonal and you do not earn income evenly throughout the year. If that is the case, you may be able to lower or avoid payment penalty by using the annualized installment method. Learn more at IRS.gov or check with your CPA.
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