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Making Estimated Payments Each Quarter

Since the U.S. uses a pay-as-you-go tax system, you must pay income taxes as you earn money. Making estimated payments throughout the year helps you avoid paying penalties.

WHAT ARE ESTIMATED PAYMENTS

Estimated tax payments are taxes paid to the IRS throughout the year on earnings that are not subject to federal tax withholding. This can include self-employment or freelancer earnings, or income you’ve earned on the side, such as dividends, realized capital gains, prizes and other non-wage earnings.

You may also be liable for making estimated tax payments if you are an employee, if the withholding on your earnings doesn’t fully cover your tax liability. The amount of money withheld on your paycheck depends on the information you provided to your employer on your Form W-4.

CALCULATION MATTERS

Generally, calculating estimated payments involves estimating your annual tax liability based on what you expect to earn. You’ll annualize your tax at the end of each quarter based on a reasonable estimate of your income and deductions so far this year. Your tax pro can assist you or the IRS has a worksheet to help you do the math.

TIMING OF PAYMENTS

Estimated taxes are due as income is earned, and the IRS sets quarterly deadlines for their collection. You can opt to send four payments per year following the IRS schedule, pay in smaller increments more frequently, or cover your estimated yearly liability in your first quarterly payment — just make sure you’re covering your tax liability for each quarter to avoid penalties.

AND IF YOU FORGET

The IRS will charge penalties if you don’t pay enough tax throughout the year. And it can charge you a penalty for late or inadequate payments even if you’re due a refund.

The calculations can get complicated quickly, so it’s a good idea to consult with your tax professional if you have questions.

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August 2021 Questions and Answers

QUESTION:

How can my business build a credit score?

ANSWER:

If you haven’t already opened a business bank account, do this first. Next, apply for a business credit card. Although you may have to personally guarantee it, having a credit card in the company’s name will start to build your corporate credit history.

Ask your vendors whether they report payments to business credit bureaus. If they don’t, consider doing business with vendors that do. Then review your company credit report as you would your personal report, and correct any discrepancies.

QUESTION:

How do I know if I should be making estimated tax payments?

ANSWER:

Because the US uses a pay-as-you-earn tax system, you must pay your tax bill throughout the year. Generally, if you work a W-2 job, have a reasonable amount of tax withheld from your pay, and have no other significant source of income, estimated tax payments aren’t necessary.

Estimated tax payments are needed if you have self-employment income because you have no paycheck to withhold tax from. Also, if you have significant amounts of interest, dividends, alimony, or capital gains, then estimated payments may be necessary. Speak with your tax professional who can let you know whether you should be making estimated payments.