Are you self-employed or had an asset sale, or rental property? Way to go! Cha-ching! However, it’s important to know if you owe estimated tax payments.
Do you fit any of the following?
-You carry on a trade or business as a sole proprietor (single-member LLC included) OR receive income as an independent contractor (and receive a 1099-NEC).
-You are a member of a partnership that carries on a trade or business. Partnerships file a separate partnership return in addition to each partner’s individual income tax return.
-You are an owner of an S Corp. S Corps file a separate tax return but owners owe estimated tax payments on any net profit of the S Corp.
-You have a rental property that is making money and will add income to your tax return.
-You have capital gains from the sales of an asset(s) like stock, property, etc.
-You received unemployment payments.
If you nodded or answered yes to any of the above questions, then it’s time to understand estimate tax payments. There are several factors to determine if you’ll owe estimated tax payments.
Factor 1: You’re self-employed
Self-employed includes being
-a sole proprietor (single-member LLC included),
-a partner in a partnership
-a more than 2% shareholder of an S Corporation
As a self-employed individual, you are required to pay your own taxes. You don’t have an employer issuing you a W2 with tax withheld (unless you have an S Corp and you’re paying yourself a reasonable salary).
You are your own employer and must pay your own taxes. These payments will cover your self-employment tax (SE tax) for sole proprietors and partners in addition to any personal income taxes you might owe for the year.
S Corp owners are unique in that they need to be paying reasonable compensation (aka a salary) to the shareholders. This means there are some taxes being withheld based on the salary. However, if there are net profits, then additional taxes might be due.
Factor 2: You have rental property/properties
First off. Good job! You most likely have some passive income and that’s got to be a good feeling.
With that comes some tax obligations as well. If the rental property is making a profit even after factoring in depreciation, taxes, insurance, etc., then you will need to consider making estimated tax payments.
Factor 3: You sold an asset
If during the course of a year, you sold a rental property, had stock sales, or even possibly sold your personal residence, then you might owe estimated tax payments.
Rental property would produce capital gains and sometimes it can be a nice chunk of change if you’ve owned the property for a while and/or the real estate market has appreciated quickly. Many locations across the country see spikes in real estate as I’m sure many of you are aware of.
Stock sales would no doubt produce income. Depending on if you’ve held onto the stock for over a year or not determines if you owe capital gains or if the stock sale is simply ordinary income. Either way, you might owe estimated tax payments to cover the gain you recognized on the sale.
If you sell your personal residence and make more than $250,000 as a single filer or $500,000 as a married filing jointly filer, then you will tax on anything above those amounts. Anything above those amounts and you have taxable gains. Gains = tax owed. Unfortunately, this can be a surprise to some sellers. Again, if your personal residence has a high value, then you might owe additional tax.
Factor 4: You received unemployment payments
Unemployment payments are subject to income tax. Many choose to withhold tax from each payment. However, if you didn’t select that option when you enrolled in unemployment, then you might owe income tax on those payments.
Factor 5: Other unique scenarios
-Multiple W-2 jobs or 2 income earners in a household where not enough tax is withheld
Now that I’ve covered the five most important factors, let’s review the ins and outs of estimated tax payments.
Estimated Tax Payments
The United States income tax system is a pay-as-you-go tax system. This means that you must pay income tax as you earn or receive any income throughout the year. You do this either through withholdings on your paycheck, usually done by your employer, or by making estimated tax payments.
Estimated tax payments simply cover any tax that isn’t already:
-paid through an employer with a W-2
-withheld from retirement distributions including Social Security or disability payments
-withheld from unemployment payments
-withheld from the sale of an asset including real property, stocks, business, etc.
Estimated tax payments are also called quarterly tax payments or quarterly estimated taxes. This means they are due four times during the year or on a quarterly basis. The due dates are:
April 15, (1st quarter)
June 15, (2nd quarter)
September 15 (3rd quarter), and
January 15 (4th quarter paid January the following year)
These quarterly estimated tax payments make sure you satisfy your tax obligation throughout the year. It’s fine to pay different amounts per quarter based on income earned during that time frame or make even payments throughout the year.
For example, if you don’t sell any stock until November 15, then you might need to make a payment for the 4th quarter only.
On the opposite side, if you sold a rental property on March 2, then you might want to make a payment for the 1st quarter but not be responsible for the other 3 payments.
If you are self-employed and your business has net profits, then most likely you should be paying several if not all quarterly tax payments based on net profit or the prior year’s income.
You make the final decision about how much tax to pay each quarter, but make sure the total is enough to satisfy your tax liability or be ready to pay an underpayment penalty come tax time.
How do you calculate what you’ll owe?
It’s not simply you made $xx, you will owe $xx amount of tax. There are so many variations especially when you factor in credits and deductions unique to each individual taxpayer. This is why I stress talking with a tax professional if you think you need to be making quarterly estimated tax payments.
Capital gains are unique in that they are either 0, 15%, or 20% completely based on your taxable income. Remember, that the income from the sale of the asset counts as taxable income! This might mean you have a big bump in income the year you sell off an asset. That’s totally normal but be ready for an increase in tax liability as well.
For 2020, capital gains income is shown below. This varies each year so it’s best to make sure you’re looking at the correct year for the sale of the asset. The capital gains tax rate can also increase according to the latest tax law.
0% Single filers with less than $44,625 (2023) of taxable income, will pay 0 capital gains. If you’re married filing jointly, this number increases to $89,250 (2023).
15% Single filers with more than $44,625 but less than $492,300 (2023) of taxable income, will pay a 15% capital gains tax. If you’re married filing jointly, this number increases to great than $89,250 but less than $553,850 (2023).
20% Single filers with more than $492,300 (2023) of taxable income will pay a 20% capital gains tax. If you’re married filing jointly, this number increases to greater than $553,850 (2023).
If you have a sale of an asset, check out this calculator. It will help you determine your capital gains tax and hopefully, you can use that to make any necessary estimated tax payments.
Small Business Owner
Again, there isn’t one right answer here because every business owner has a different situation including different income, dependents, credits, deductions, etc.
Generally, if your business has a net positive income, then you most likely will owe some taxes. The estimated tax payments will cover both your self-employment taxes (15.3% for Social Security and Medicare) and your personal income tax. Generally speaking, I see this to be anywhere from 20% to 30% of net business income. Again, this varies for each individual situation. For some, it might be a little higher and you’ll also need to factor in state payments. For others, it might be exactly 15.3% to cover only the self-employment taxes because there are enough credits and deductions that no income taxes are due.
As you can see, situations vary so I do urge you to talk to a tax professional if you think you’ll owe estimated tax payments.
Prior Year Taxes
The IRS is pretty fair in that it allows you to pay at least 90% of the current year’s tax or match 100% of the prior year without getting a penalty.
If you meet any of these conditions, then there should be no penalty:
Owe less than $1,000 in tax with your tax return
Throughout the year, you paid the smaller of these two amounts:
at least 90 percent of the tax for the current year
100 percent of the tax shown on your return for the prior year – this can increase to 110 percent based on adjusted gross income
This allows for fluctuations in income and tax payments. However, if you are able to pay less in quarterly estimated tax payments, I do encourage you to keep a separate tax savings account. This way you will have the cash when it’s time to pay and also, you can make a little interest on the money while it waits to be dispersed to the IRS.
In the best-case scenario, you owe a little less than you thought and you have a little extra spending money once tax time is over.
How to pay estimated tax payments?
The IRS has a pretty simple and easy-to-use online payment system. You can electronically pay using a bank account for free. You can also schedule payments in advance so you don’t have to remember to do it later in the year. It can even send an email confirmation so you have receipts for the payment date and amount.
Click Make a payment.
Reason for payment: Estimated Tax.
Make sure to select the correct year and then enter all the details the system requests. This is usually the previous year’s tax information.
Then you’ll enter your bank account information, amount to pay, and date of payment. It lets you schedule up to 365 days in advance.
That’s it. You’re all done and your payment is scheduled.
It’s that easy.
What other questions do you have about making estimated payments? Drop them below.
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