Our federal income tax system is a pay-as-you-go deal. The "pay" part is through the monthly voluntary withholding amount we authorize our employer to take out and pay for us.
But what if you are self-employed? You can't wait until the end of the year and pay everything at once. Besides, you will also have to pay an additional approximate 15% self-employment tax (half of which is deductible).
Since you can't wait, and nothing is deducted from your earnings, the IRS expects you to make quarterly estimated tax payments. These payments amount to self-withholding, and you must make estimated tax payments if you expect to owe federal taxes of at least $1,000.
Here's how to make estimated tax payments:
1. Estimate your income and expenses for the upcoming year. The IRS suggests you base the estimate on last year's earnings.
2. Download the IRS Form 1040-ES. The form has accompanying details with calculating instructions and payment voucher forms.
3. Submit the form with your payment voucher and payment on April 15, June 15, September 15, and January 15 of the following year. You can make payments either by mail or online through the Electronic Federal Tax Payment System.
When the quarterly due dates fall on a weekend, the dates are adjusted to the following Monday. Also, when you file your federal income tax return by the last day of January, the IRS allows you to skip that quarterly payment and include it in your yearly filing, normally due on April 15.
Penalties for procrastination
If you fail to pay as you go, the IRS will assess an underpayment penalty, depending on the amount of underpayment. On the other hand, if you have already withheld a minimum 90 percent of your current tax bill, you can escape the penalty. Likewise, if circumstances (starting a new business, for example) preclude an accurate estimate this year, pay what you did last year, and the IRS will give you a pass.