What Is Estimated Tax and Whom Does It Apply To?

by Megan Hiles
Tax Organization

Estimated tax payments are a  method of paying tax on income that is not subject to withholding tax. This includes income from self- employment, business earnings, interest, rent, dividends and other resources. The IRS generally requires estimated tax to be paid in four equal installment payments throughout the year.  In addition to penalties and interest that the IRS will assess on the underpayment of estimated taxes, payment of estimated taxes can also help alleviate the overall tax burden due with the tax return.

Below are some strategies to help you forecast your payments, but first it is important to determine whether you need to pay quarterly estimated tax.

Who Must Pay Estimated Taxes?

In general, if your tax liability is $1,000 or more when you filed your tax return last year, the IRS expects that you will either have more tax withheld from your paychecks or that you will make  estimated tax payments for the following year.

How to Determine Estimated Tax:

Rely on Your Prior Years Total Tax

Relying on your previous year’s tax liability is a conservative method to prevent underpayment penalties. If your estimated taxes for this year are at least 100% of your prior year tax liability (110% if adjusted gross income for the prior year was at least $150,000 or $75,000 if married filing separately) there will be no penalty for underpayment. However, while this method does a good job of preventing tax penalties, it may result in paying in too much tax or leaving the taxpayer with a balance due when they go to file their tax return.

Project Your Tax for this Year

Projecting your tax liability for the current year is an effective way to make accurate estimated tax payments. Under the current year tax method the estimated tax due is 90% of your current year projected tax.  This method creates an opportunity for taxpayer’s to match the tax due with their actual income allowing the taxpayer to have a good idea of where they will be at when they go to file their tax returns.   Tax projections can be generated with the assistance of a tax advisor or IRS worksheet.

For more details on estimated tax or projecting your tax liability for 2019, ask our experienced tax professionals today and for some additional reading visit IRS Publication 505.