Do you need to pay estimated taxes?

No matter what industry you work in, if you receive income, you are required to file a tax return once a year.

Depending on your income sources, you may also be required to pay estimated taxes quarterly. If paying your taxes is already a dreaded annual event, it might seem like your worse nightmare to go through the ordeal as often as the seasons change, but don’t start fretting yet. There are benefits to paying estimated income taxes. Additionally, paying quarterly might relieve some of the stress that comes from filing every April 15.

Unlike traditional income sources, income from sources such as dividends, rentals or self-employment do not have taxes withheld over the year.

If a portion of your income comes from this type of source, there are certain advantages to paying estimated taxes. Estimated taxes can save you from late filing fees, underpayment penalties, and the headache of trying to pay a year’s worth of taxes at once. Also, it can help keep your finances organized. Most importantly, the Internal Revenue Service, along with many state or local governments, wants you to pay your taxes as you go. For income sources that don’t automatically withhold taxes, estimated tax payments are a simple way to pay-as-you-go.

If a portion of your income comes from being a solo proprietor or individual contractor and you file a self-employment tax form (1099-MISC)

You may actually be required to pay estimated taxes, depending on the amount of taxable income you receive. If enough of your monthly income comes from another job with paychecks from which taxes are withheld, you might not be required to pay quarterly or will be able to avoid paying estimated taxes by changing your withholding so that more money is deducted from each paycheck for taxes. Do note that while changing your withholding allows you to avoid filing quarterly taxes, this method does mean that you receive less monthly income from your current employer. As general rule, if you file as a sole proprietor, S corporation shareholder or a self-employed individual and expect to owe taxes of $1,000 or more, you should be paying estimated taxes. Check with a financial advisor or tax professional if you are unsure if you are required to be paying estimated taxes or unsure about how much you should withhold.

How do you pay estimated taxes?

Ideally, the IRS wants you to pay an equal amount in estimated taxes four times a year: April 15, June 15, September 15, and January 15. There are multiple methods to calculate how much you owe in estimated taxes. You can use the prior year method, the current year method, or the annualization method. The prior year method, which is usually the easiest method for most people, calculates your quarterly payments by taking the amount you paid in taxes last year and dividing that amount by four. The current year method projects this year’s income and calculates payments to cover at least 90 percent of the tax you should owe. The annualization method is used to pay applicable taxes when you receive income in situations where income is irregular over the course of the year, such as year-end stock dividends.

Penalties for underpayment or late filing on your taxes add up fast at the federal, state and even local levels. Making estimated tax payments can help you avoid taxing bodies from taking more of your hard-earned cash, paying only what you owe, on time.

Want to learn more about how to pay estimated taxes?

Check out the IRS help page or talk to your tax advisor.

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