If you recently left your full-time job to freelance, start your own business or even retire, you are probably feeling pretty great about not having to work for ‘the man’ any more. But that freedom comes with an asterisk: making quarterly estimated tax payments. While employees have their taxes withheld from their weekly paychecks, self-employed taxpayers are required to pay their own taxes over the course of the year
Minimum payment requirements
Taxpayers are required to pay in at least 100% of either their prior year’s tax or current year’s estimated tax, whichever is lower. For higher income taxpayers whose adjusted gross income was more than $150,000 (or $75,000 if married and filing a separate return) the required amount is 110%. Payments are due in four installments on 4/15, 6/15, 9/15 and 1/15.
Minimum isn’t necessarily best
If your income is fairly stable, you can simply divide last year’s tax by four to calculate your quarterly payments. But if you are like most self-employed there’s a bit more variability. When we have clients who have unpredictable income and/or large swings, we recommend they make their quarterly payments based on what they anticipate owing, rather than just last year’s tax. This helps avoid the dreaded scenario of having made money all year but having none of it left when the tax is due.
What happens if you don’t make estimated payments
The penalty for failure to make estimated tax payments is relatively mild compared to other penalties (3% on the underpaid balance), however we don’t want the IRS getting any more of your $ than they’re entitled.
Surprises are great for parties, but not for taxes. Plan ahead. If you’ve recently left your full-time job for greener pastures, give us a call and let us help you avoid the pain of April tax surprises.