Estimated Taxes

you really should be paying your taxes four times a year in the form of estimated income taxes.

• You have hired a nanny. You would pay her payroll taxes either quarterly or in one lump sum when you file your IRS Form 1040.
• You or your spouse are self-employed and will owe taxes on income that had no withholding.
• You made significant money in the stock market, playing poker, gambling, and commodities or from other investments.

• 100% of last year's tax method: If your adjusted gross income is $150,000 or less, you can pay 100% of the tax shown on your 2005 return for 2006 taxes. (See line 63 of your IRS Form 1040, less any credits). Example: Gwen paid $10,000 in taxes in 2005. In 2006, she wins the Power Ball lottery for $60,000. She need only pay $10,000 in estimates, prorated at 25% for each quarter. She will, however, have to pay the full amount of the tax due on the $60,000 on April 15, 2007.
• 110% of last year's taxes: As I noted above, the previous safe harbor only applies if your adjusted gross income was under $150,000. If you made over $150,000 of adjusted gross income, you have a different safe harbor rule. (So much for tax simplification). You have to pay 110% of last year's taxes to be safe.
• 90% guesstimate approach: This approach works the way it sounds. You would guess how much you would owe for all federal taxes and pay 22.5% each quarter. If you come within 90% of your guess, you won't be hit with any estimated tax penalties when you file your IRS Form 1040. Although this is not my recommended approach, it is beneficial for those people who will make significantly less net income this year than last year. This way, you don't have to over pay your taxes using one of the above noted safe harbor approaches.
• Annualized approach: What happens if you earn a significant amount of income at year end such as with bonuses or large stock gains? Instead of using the safe harbor approaches, you can pay the estimates in accordance with your cash flow. Be advised, this is a complicated method, which usually requires an accountant's help.

The best way to avoid estimated taxes is a well-kept secret until now: withholding!

• De Minimis exception: No penalty is imposed for the payment of estimated taxes if the taxes due, net of withholding, is less than $1,000.
• No tax liability for preceding taxable year: You are not required to pay estimated taxes if you had no tax liability for the preceding taxable year, and you were a citizen or resident for the whole year. You are deemed to have had no tax liability for last year if your total tax was zero or if you weren't required to file an income tax return.
• Waiver of estimated tax penalty: The IRS may waive the penalty for underpayment of estimated taxes in situations that involve hardship or unusual circumstances, or where the IRS determines that it would be inequitable to impose the penalty. For example, the waiver could be granted if your books and records were destroyed by fire, flood or other casualty, or if the payment was not made because of a "death or serious illness of the taxpayer". However, there must be reasonable cause for the non-payment of estimated taxes. Your willful negligence won't get you a waiver from the penalties. Thus, don't argue that you forgot, didn't know about paying these taxes (which you can't argue if you read this article), or were plain lazy.

The bottom line is that if you have $1000 or more of taxes owed above what was withheld, you will need to pay estimated taxes.

• Unlimited consultation for your tax questions for as long as you have the service
• Two years of prior tax returns reviewed for omitted deductions
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