Missing an estimated tax payment can be expensive, even if you are expecting a refund later. Understanding when estimated taxes apply and how to stay compliant can help you avoid unnecessary penalties and keep your cash flow on track throughout the year.
If you are self-employed, own an S Corporation, have investment income, or earn income that does not have enough tax withheld, estimated taxes may be something you need to consider.
Do You Need to Make Estimated Tax Payments?
One of the most common questions is, “Do I need to make estimated tax payments?”
Generally, individuals—including sole proprietors, partners, and S Corporation shareholders—may need to make estimated tax payments if they expect to owe at least $1,000 when they file their tax return.
Corporations generally need to make estimated tax payments if they expect to owe $500 or more.
The purpose of estimated taxes is to help you pay your tax liability as you earn income throughout the year rather than waiting until tax filing season.
Estimated taxes can apply to more than just income tax. Depending on your situation, they may also help cover self-employment tax and other tax obligations.
What Types of Income Can Create an Estimated Tax Liability?
Many people associate tax payments with the withholding that comes out of a regular paycheck. But not all income has taxes automatically withheld.
Income from sources such as:
- Self-employment
- Interest
- Dividends
- Capital gains
- Rental income
- Prizes and awards
- Other income not subject to sufficient withholding
may result in a tax liability that needs to be addressed through estimated payments or additional withholding.
The important thing is not necessarily where the income comes from, but whether enough tax is being paid throughout the year.
You May Have Another Option
Estimated tax payments aren't the only way to stay on top of your tax liability.
If you have wages from an employer, you may be able to increase the amount withheld from your paychecks by adjusting your Form W-4.
For example, an employee who also has a side business could choose to have additional federal income tax withheld from each paycheck to help cover the taxes generated by that business.
Business owners who receive wages through an entity that allows them to be on payroll may also be able to use payroll withholding to help cover their expected tax liability.
Planning Ahead Can Make Tax Payments Easier
One approach we use with clients is to review their financial information later in the year and use that information to estimate their expected tax liability.
For example, some clients have their bookkeeping completed through October or early November. Their CPA can then use the financial reports to estimate the amount of tax they may owe.
From there, they can determine an appropriate wage, when applicable, and calculate how much federal and state tax withholding may be needed to help cover the expected liability.
This type of planning can be much easier than waiting until tax filing season to discover that a large tax bill is due.
Don't Wait Until Tax Season to Think About Taxes
Estimated taxes are really about planning ahead.
If you have income that isn't subject to regular withholding, don't assume you can simply wait until you file your tax return to deal with the taxes. Depending on your situation, you may need to make payments throughout the year to avoid an unexpected tax bill or potential penalties.
The good news is that you may have several ways to plan for your tax liability, including estimated payments or adjusting payroll withholding.
The key is knowing what you are likely to owe before tax season arrives.
Good bookkeeping gives you the financial information needed to make those decisions. When your books are current and accurate, you and your tax professional can make more informed decisions about your tax liability and cash flow throughout the year.
Need help with your books or payroll? Contact us at Affordable Bookkeeping & Payroll Services(opens in new tab) by phone at 310-534-5577 or email contact@abandp.com.
Love Affordable Bookkeeping & Payroll? Leave them a 5 Star Review on their Incredible Towns Web page(opens in new tab).
