If you’re a sole proprietor, LLC owner, or partner, you need to know about quarterly estimated tax payments. That’s because you pay both your business and personal income tax through one personal tax return, so you are subject to the rules governing anyone who is not an employee of someone else’s business.
Employees have payroll taxes withheld from their paychecks throughout the year, so the government always has money coming in. You’re not receiving a paycheck from another company, so the government gets nothing until you write them a check. Hence the estimated quarterly tax payment system.
Under this system, you pay a portion of your taxes every quarter: in January, April, June, and September. That amount must include self-employment tax (Social Security and Medicare taxes) as well as income tax.
IRS Form 1040-ES
This is the form used for filing an estimated income tax. You will send one along with each tax payment you mail.
You don’t need to pay estimated tax if you had no tax liability for the previous year, you were a U.S. citizen or resident for the whole year, and your prior tax year covered a 12-month period.
Decide on a Percentage
The IRS requires that the total of those four payments be “at least 90% of the tax for the current year, or 100% of the tax shown on the return for the previous year, whichever is smaller.”
Depending on your situation, it may be smarter to pay more than 90%, rather than risk underpayment penalties.
• Pay 90% if you expect your income this year to be less than last year
• Pay 100% if you expect your income this year to be the same or more than last year
• Pay 110% if last year’s adjusted gross income was more than $150,000 ($75,000 if you were married and filed a separate return)
Estimate Your Income
A good starting point is your income tax returns for the last two or three years.
If this is your first year in business, or you expect income to be significantly different from previous years, start with your year-to-date income and project it to a total for the year.
Remember, this estimate must also include other personal income such as interest, dividends, capital gains (i.e. from the sale of stocks or other assets), and taxable alimony.
Calculate Your Tax
Form 1040-ES includes a worksheet for calculating the quarterly tax payment. You’ll fill in your estimated income as well as any credits and deductions you’re entitled to. It also offers help with figuring the differences between last year’s and this year’s income.
Plan a Payment Schedule
You’re required to complete the quarter’s payment by the IRS’s mandated dates. However, you don’t have to send it all in a lump sum. You may choose to make weekly, biweekly, or monthly payments if that works better with your cash flow.
You can also choose to pay your estimated tax for the entire year in one lump sum by April 15 of the current year. (You will still have to file a tax return next April with the actual figures for the year, and either make an additional payment or receive a refund depending on the difference between your estimated and actual tax.)
Also, there’s no rule that you have to divide the tax equally between the quarterly payments. If you typically do most of your business in the 4th quarter, it would be easier to determine a smaller amount for the first three payments, and a larger amount for the last one.
We hope you’ve found this overview helpful. However, it is not intended to be specific tax advice. Please work with your Xendoo tax professional to decide on the best tax strategy for you and your business.