I often get phone calls from clients asking how to calculate estimated federal and state income tax payments. The payment for the first quarter estimate is due on April 15th.
In general, estimated taxes must be paid on any income which is not subject to withholding, including taxable income from self-employment, interest, dividends, alimony, gambling winnings, unemployment compensation, social security, rent, and gains from the sale of assets. You may also have to pay estimated tax if the amount of income tax being withheld from your salary, social security, pension or other income is not enough to cover your tax due. Estimated tax is used to pay income tax and self-employment tax, as well as other taxes reported on your personal income tax return. If you do not pay enough tax, either through withholding or estimated tax, or a combination of both, you may have to pay a penalty. You may be charged a penalty even if you are due a refund when you file your return. Estimated tax payments are made in four quarterly installments and can be based on a regular tax method or an annualized income installment method.
If you choose not to use the “Regular installment method”, the annualized installment method allows you to compute your estimated tax based on actual income earned in each of four specific periods. As a result, tax on income which is seasonally earned will not be paid until the period in which it is earned. For example, if a significant percentage of your income is earned in the last quarter of the year, then utilizing the annualized income installment method will allow you to defer the payment of tax on this income to the final quarter as opposed to paying the tax on this amount in equal installments throughout the year.
In general, under the regular installment method, the required annual payment which is paid quarterly through estimated taxes (if no tax is withheld) is the smaller of 1) 90% of the current year’s total expected tax or 2) 100% of the tax shown on the prior year return. Note that if your last year’s Adjusted Gross Income was over $150,000 ($75,000 for married filing separately); the safe harbor is 110%. Adjusted Gross Income refers to all taxable income less certain deductions such as your SEP/IRA/Other Retirement Plan contributions, alimony payments, deductible health insurance premiums paid for self-employed individuals, moving expense deductions, deductible tuition, student loan interest and fees and self-employment tax deductions.
Timing of Payments, Penalty for Underpayment
The year is divided into four payment periods for estimated tax purposes. Each period has a specific payment due date. Note that if you do not pay enough tax by the due date for each period, you may be charged a penalty through the date any underpayment remains outstanding even if you are due a refund upon filing your income tax return. The penalty is equal to the interest rate charged on tax deficiencies (3% per year as of January 20, 2015) on the amount of the installment underpayment from the date the installment is due until the earlier of the date the underpayment is made up for April 15th of the next year. Thus, generally the penalty for underpayment of an estimate is equivalent to paying the IRS non-deductible interest.
The specific due dates for estimated tax payments are as follows:
|January 1 – March 31||April 15|
|April 1 – May 31||June 15|
|June 1 – August 31||September 15|
|September 1 – December 31||January 15 of following year|
Here are tips worth considering about estimated taxes and how to pay them.
- As a general rule, you must pay estimated taxes in 2015 if both of these statements apply: 1) You expect to owe at least $1,000 in tax after subtracting your tax withholding and tax credits, and 2) You expect your withholding and credits to be less than the smaller of 90% of your 2015 taxes or 100% of the tax on your 2014 return. There are special rules for farmers, fishermen, certain household employers and certain higher income taxpayers.
- For Sole Proprietors, LLC Members, Partners and S Corporation shareholders, you generally have to make estimated tax payments if you expect to owe $1,000 or more in tax when you file your return.
- To figure your estimated tax, include your expected gross income, taxable income, taxes, deductions and credits for the year. You can use the worksheet in Form 1040ES, Estimated Tax for Individuals for this, or just email me your year to date Profit and Loss and I will help you.
The easiest way to pay estimated taxes is electronically through the Electronic Federal Tax Payment System or EFTPS. You can also pay estimated taxes by check or money order using 1040ES – Estimated Tax Payment Voucher or by credit or debit card, but I do not advise using your credit card due to the expensive service charge. If you have any questions please email or call Gregory J. Spadea at 610-521-0604 of Spadea & Associates, LLC in Ridley park, Pennsylvania