If you are a business owner or earn money as a freelancer, you must pay estimated quarterly tax payments to avoid fines and interest. Here's how.
In this article, we will explain:
• Who should pay quarterly taxes?
• When do quarterly taxes expire?
• How to pay the quarterly taxes
• What happens if the quarterly fees are not paid?
Since most people receive a salary, the employer withholds income tax. However, for millions of taxpayers who are independent or have substantial unpaid income, there is generally no automatic withholding method.
For these taxpayers, you will have to pay the estimated quarterly tax payments. Calculating quarterly tax payments is not always easy, but it is essential. If you avoid them, you will be charged a considerable fee when the time comes.
In general, quarterly tax payments should be made by anyone who has not withheld income tax. Most people who receive a salary and receive a W2 are subject to income deduction. In general, you do not have to make tax estimates.
Estimated quarterly tax payments are the most common for freelancers. However, there are other withholdings of income that may require estimated payments, including:
• Significant investment income.
• Significant retirement income.
• When you make an unexpected big profit, like selling an asset.
• Food income.
• Income distributions for a company or sub-chapter S Corporation.
Even if you have regular withholding tax, it may be necessary to set estimates for tax liability coverage in one of these additional withholdings of income.
Income from almost all withholdings is generally subject to income tax. This can include not only federal income tax but also income and social security and Medicare taxes.
The Internal Revenue Service demands that at least most of the taxes be paid in advance. Although this is done automatically through regular withholding tax, it must be made through estimated quarterly tax payments, if withholding deduction is not available.
Quarterly tax payments are usually due four times a year. The payment terms are as follows:
• April 15 - for the months of January, February, and March.
• June 15 - for the months of April and May.
• September 15: for the months of June, July, and August.
• January 15 of the following year: for the months of September, October, November, and December.
You can pay estimated taxes if you pay more than the previous year.
For example, let's say we have to make quarterly payments of $ 6,000 each. But, it turns out that you have an overpayment of $4,000 compared to the previous year. You can choose to apply the refund to your first tax calculation. This means that your first tax calculation, which expires on April 15, will be reduced to just $ 2,000.
It is also possible that the overpayment may apply to more than one estimate. For example, suppose the overpayment from the previous year was $ 12,000. You can apply the first two estimates to $ 5,000 each, and the remaining $ 2,000 to the third estimate.
You can distribute the overpayment equally among the four estimates. A payment greater than $ 5,000 can be used to reduce each of the four payments by $ 1,000.
• Divide the tax debt into four: Estimated quarterly tax payments are usually determined when the previous year's tax return is registered. Typically, you divide the past year's tax debt by four, and the bottom line will be the estimated payment for each quarter.
• It is usually done automatically through a tax preparation plan or a tax preparation program. As you can see from the IRS form, it is incredibly difficult to calculate the quarterly payments.
• Pay online: A much simpler method is to use IRS Direct Pay. It is an online payment method provided by the IRS. There are no charges if you pay with your bank. If you are paying by credit card, the IRS will send you to an approved payment system. There will be a commission for using this method. It can range from a fixed amount of $ 2.59 per payment, up to two percent of the amount paid. It will be added to the provision of estimates, so it's best to pay through your bank if you can.
• Pay by check: If you are making payments by check, you can do so using form IRS 1040-ES.
• Form 1040-ES: Paying quarterly taxes can be difficult. Our advice, if you do not know what to do, is to contact a tax preparer or use tax software. The entire process includes 15 steps, and you can find detailed instructions on the 1040-ES module.
There are two things that are bound to happen:
You will have a hefty tax debt when you file taxes: Suppose you earned $ 50,000 through employment, but still have $ 25,000 in investment income. You may have deducted enough taxes from your work income, but not from your investment income. Investment income may result in additional tax, for example, $ 5,000.
Since there was no withheld tax on this income, you will have to pay $ 5,000 when filing the income tax return. If you don't have money in a bank account somewhere, it can lead to a crazy last-minute fight.
You will have to pay penalties and interest for the unpaid tax obligation: Although you may be able to pay the additional tax owed, you may have to pay interest and penalties. For 2020, the IRS will assess the interest rate at an annual rate of four percent to the amount of non-payment. However, the rate will take effect from the date the commitment was made, not from the date you filed the return.
If you cannot meet the full amount of the tax liability before the deposit expires, you can also impose a penalty of 0.5% per month on the outstanding balance.
The penalty will not be applied if any of the following conditions occur:
• You owe less than $ 1,000.
• Withholding tax and estimated taxes paid represented at least 90% of the current year's tax liability or 100% of the debt of the previous year, whichever is less.
Tax registration can be complicated, or even double, if you are self-employed and have to file quarterly returns. We have been able to cover everything you need to know on the subject matter, but we also recommend that you consult a tax preparer.
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