Paying Estimated Taxes
Starting your own business comes with many exciting steps: deciding on a name, making a logo, designing a website, and doing work that you love.
But as a new business owner, there are many changes you will have to be aware of. One of the biggest changes is the way you file your taxes.
Entrepreneurs are responsible for paying quarterly taxes to the IRS. This is done by estimating the amount of money you owe four times per year. The system of estimated taxes is often confusing to new business professionals, which is why I want to provide practical advice to help you breeze through your estimated tax payments this year. (Note: you may also need to set up quarterly payments if you will owe taxes, have significant sales such as stock options, etc.)
What are estimated payments?
Self-employed workers and people who own their own businesses have to file taxes in a new way. This might be a frustrating reality, but one that is necessary to understand. When you were an employee, you filled out a W-4 which indicated the amount of money you wanted to be withheld from your paycheck for taxes. After filling out that form, you were done until tax time once a year unless you had a significant change such as marriage or having a child.
Now, as your own boss, you will have to pay the IRS quarterly for your income tax and self-employment tax. These taxes often come with a larger price tag than you might initially think. Your estimated taxes are a combination of income, Social Security, and Medicare taxes.
You will probably pay more in taxes now that you are self-employed because your employer is no longer going dutch with you on the Social Security and Medicare bill, you are responsible for the entire payment which comes out to about 15% of your adjusted gross income. The sticker shock comes in effect when your taxes can eat up about 25% to 40% of your income. Not to worry though, there are many tax deductions available to business owners including the ability to deduct half of your self-employment taxes.
When are the payments due?
Quarterly taxes are due four times per year. It may seem like a lot, but would you want to wait a year for your friend to pay back a large amount of money they owed you? Probably not. You would want the money back sooner. Similarly, the IRS wants the money that they are owed throughout the year.
The due dates for these payments may vary depending on weekends and holidays but often they fall on the 15th of April, June, September, and January of the following year. The payments are broken down into payment periods which look a little something like this.
Remember that these dates can change by a day or two depending on the calendar year. For 2019, your quarterly payments are due on April 15, June 17, September 16, and January 15 (of 2020). If you want more information about the 2019 tax calendar, check out the IRS website.
How much do you have to pay?
Your estimated taxes will vary based on your income level and tax bracket. The IRS provides you with a 1040-ES form that is designed to help you calculate the amount of money you will owe. Your bill will be determined by figuring out your adjusted gross income, taxable income, taxes, deductions, and credits for the year.
It is important to note some of the changes under the new Tax Cuts and Jobs act which increased the standard deduction threshold to $12,000 if filing single and $24,000 if filing jointly, among other deduction modifications. More on the 2018 tax modifications can be found here.
This is not an easy process to do by yourself, so many people consider hiring an accountant to help them navigate these rough waters. Finding a reliable tax advisor may make all the difference for filing your taxes this year.
Please remember that the federal government is not the only place that needs your quarterly payments, you are also responsible for paying estimated taxes to your state.
How do you make a payment?
Making the payment is the easiest part of quarterly taxes. The IRS gives you many options:
Sending the payment in the mail
Locate your estimated tax voucher at the end of the 1040-ES form and mail in your estimated taxes.
You can call the IRS and make a payment over the phone, but there may be a surcharge and increased headache potential.
When it comes to paying estimated state taxes, each state has its own procedure. Be sure to peruse your state’s website for further details on payment options. In Tennessee for example, we don’t have an income tax but there are many other taxes such as franchise and excise, sales tax, etc. that you may need to apply for an pay. More on this in upcoming Guides.
What are the penalties if I underpay?
If you forget about your credit card statement or miss a loan payment, you are often hit with a late fee. The same goes for the IRS. Forgetting, missing, or underpaying your quarterly taxes can lead to a penalty. These penalties vary on the amount missing and often are linked directly to the amount that you underpaid.
There isn’t a simple calculator that will clue you in on exactly the amount you owe but there are resources to help.
Ask your tax advisor
Estimated quarterly taxes are something that all entrepreneurs need to be aware of. The system may not be simple, but understanding the process and payment schedule are the main things you need to know to help get you through it.
Due to the complexity of the system, finding a tax professional to help you is another step you can take to ensure you remain on the IRS’s good side. We work with many tax professionals and can assist you with your business structure and work with your accountant.