When I filed my tax return, I was assessed a “failure to pay tax penalty.” What is this penalty, and how can I prevent it in the future?
The taxpayer is required by law to make federal estimated tax payments if for the year 2006 he or she expects to owe $1,000 or more in taxes for the year. To determine your outstanding tax liability, take your total tax liability (including income tax, self-employment taxes, alternative minimum taxes, etc.) and subtract all taxes paid in (such as withholding taxes). If the final result is $1,000 or more, you may be assessed an estimated tax penalty.
Are there any exceptions?
Yes. If the taxpayer has timely paid in taxes equaling 90% of the current year’s tax liability or 100% of the prior year’s tax liability, the taxpayer is not subject to the penalty even if his or her balance due is in excess of $1,000. These two exceptions often exempt many taxpayers from any underpayment penalties. It should be noted that there are separate rules and limits for higher income tax payers.
How do I make these estimated tax payments?
Estimated tax payments are due 4 times each year: April 15, June 15, September 15 and January 15. And they are made on Federal Form 1040ES. As an added tax tip, you should know that if you itemize your deductions, you can increase your current year deductions if you will pay your 4th state tax estimated payment in December rather than January.
Who is most likely to be subject to estimated tax payments?
Any taxpayer who receives income during the year on which there has been no withholding. This will include such items as selling appreciated stocks, bonds, mutual funds, etc., or converting a conventional IRA to a Roth IRA. Any self-employed person is also likely to be subject to making estimated tax payments. This includes sole proprietors as well as members of a partnership or a Limited Liability Company (LLC).
If you have any doubt about whether you should pay estimated income taxes you should consult with your tax preparer for an expert opinion.
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