The majority of Americans think about paying taxes only when tax season rolls around—sometime between January 1 and that year’s filing deadline.
That works for salaried or hourly employees if their companies automatically take out taxes every pay period, but what about the rest of us?
Many Americans find themselves in a very different tax situation. Depending on your income, the IRS may require you to estimate and pay taxes every quarter.
We put together this short guide to help you figure out whether or not you must pay quarterly taxes and how you can avoid penalties.
Who is required to make estimated quarterly tax payments?
We always start by asking our clients these three questions:
- Do you work for yourself?
- Are you the sole proprietor of or a partner in a business?
- Do you earn income from any investments?
If your answer is “yes” to any of those question, then the IRS may require you to pay estimated taxes every quarter. Here’s a good rule of thumb: If you expect to owe $1,000 or more in taxes when you file your return, then the IRS requires you to pay quarterly. End of story.
Of course, most people receive income via W2 employment, which means that their employers set aside social security, medicare, and Federal income taxes for them.
But as soon as you become your own boss—whether you are an independent contractor or you own a company—then you are responsible for calculating self-employment taxes for yourself.
(If you’re new to self-employment, read this post about self-employment income.)
The IRS provides a handy calculator to help you estimate the taxes you will owe—namely, more than $1,000 in taxes. Though it is designed to determine whether you should submit a new W4, the calculator is still useful for other situations.
When will you pay penalties?
Three situations result in penalties being levied against you for failure to make your quarterly payments.
- The first, and most common, situation you can call “ignorance.” For example, recent college grads who are self-employed may not know that the IRS requires them to pay taxes quarterly. This situation occurs when you receive self-employment or investment income and don’t accurately estimate the quarterly amount.
- The second situation is “underpayment.” Let’s say you dutifully made your quarterly payments, but you underestimated your tax liability and paid too little. Unfortunately, even if you were trying to do the right thing, the IRS will still penalize you for underpayment.
- The third situation is “lateness.” Being even one day late in making your quarterly payment usually results in penalties.
How do you estimate your quarterly payments?
Unless you anticipate a sharp increase or decrease in income, the IRS recommends that you use your previous tax year to estimate the current tax year’s quarterly payments. With this model you divide your total tax burden by four. You then pay one-fourth each quarter.
You can also recalculate your estimate each quarter with the IRS 1040-ES form.
Again, remember that it might be better to overpay and get money back from the IRS than to underpay and face the penalty plus any interest on the underpayment.
When and how should you make quarterly payments?
You must postmark your quarterly payments by the following dates:
|For the period:||Due date:|
|Jan. 1 – March 31||April 18|
|April 1 – May 31||June 15|
|June 1 – Aug. 31||Sept. 15|
|Sept. 1 – Dec. 31||Jan. 17, next year|
|These are 2016 dates, they will change every year, always make sure to check the dates each year.|
Note: These are 2016 dates, and the dates can change from year to year based on holidays or weekends.
If you mail your payments, the IRS considers the postmark date as the date of payment.
Keep an eye on those due dates because, as already mentioned, you will be charged a penalty if you are even a day late with your payment.
You can also pay online or over the phone with a card assuming that you’re willing to pay the convenience fee. Or you can authorize the IRS to use an electronic funds transfer and automatically deduct your payment from your account.
Two benefits of online payments is that they decrease the likelihood of missing a payment and give you instant confirmation of your payment.
Should you hire a tax professional?
Taxes can be confusing for anyone. They can be even more confusing when you are having to estimate quarterly taxes.
One big benefit of hiring a tax professional is getting a CPA to guide you through the process. Not only can we help you avoid paying extra penalties, but we can also give you the peace of mind that the pros are taking care of everything for you.
Many of our clients believe that the extra cost of professional accounting translates into savings when they avoid penalties and thereby decrease their overall tax burden.
If we can help you in any way, don’t hesitate to give Culpepper CPA a call at (865) 691-8509.
IRS Publication 505, Chapter 2: Estimated Taxes for 2016