You may think of April as tax time, but in reality, the IRS operates a sort of pay-as-you-go system. Either you send money to Uncle Sam weekly or bi-weekly by having taxes withheld from your paycheck, or you make estimated tax payments, four times a year.
“The government wants their fair share in a timely fashion and that’s what the concept is behind it,” says certified public accountant and personal financial specialist Walter Dazkowski.
As a general rule, anyone who thinks they’ll owe more than a thousand dollars when they file their return should be paying quarterly taxes. The trick is estimating how much to pay without falling short. This is easy enough if the money coming in is regularly, like income from a rental property or alimony payments. In one visit, your CPA can estimate what you will owe, break it into four equal parts and hand you four payment vouchers.
“It says voucher number 1, 2, 3, or 4 and you write a check and you send it in. It’s like a payment on account,” says Dazkowski.
However, if you are self-employed, like an independent contractor who receives a 1099, or if your income tends to vary, prepare to see a lot more of your CPA.
“We’ll meet with them quarterly, we’ll estimate what their income is and we’ll prepare the estimates on a quarterly basis,” says Dazkowski.
Notice he said estimate. You will still need to file a return in April to calculate your actual total tax, and then plug in what you paid through withholdings and what you paid in quarterly taxes.
“If you are short, that amount you are going to owe. If you overpaid, that amount you will take as a refund,” says Dazkowski.
You may find it tempting to underestimate your quarterly payments so you have more money in your pocket now. You can always make up the difference when you file in April, right? Not so fast.
Not only will you have to pay what you owe, but you will likely also be hit with a penalty for underpayment. To avoid it, you’ll want to send the government at least 90 percent of what you think you’ll pay in the current tax year or 100 percent of what you paid last year, whichever is smaller.
In fact, Dazkowski thinks it’s better to err on the side of overestimating since you never want to be in the position of owing the IRS more than you can pay them.
“Then you have to go on a payment plan and there’s penalties and interest on that amount too and it’s not pretty,” he says.
For more information visit IRS.gov.