Estimated Taxes: Who Must Pay?

Many of your clients may have to pay estimated taxes on income that is “not subject to withholding,” according an IRS Tax Tip released Friday. The IRS has provided “Six Tips for Paying Estimated Taxes.” If your client underpaid their taxes in 2010 and did not send estimated payments to the IRS they may be subject to penalties in addition to the tax they owe.

Generally, the IRS states in Publication 505, a taxpayer must pay estimated taxes in 2011 if they expect they will owe the IRS more than $1,000 for 2011 after netting out “withholding and refundable credits;” and if the taxpayer’s “withholding and refundable credits” are “expected to be the smaller of: a. 90% of the tax to be shown on your 2011 tax return, or b. 100% of the tax shown on your 2010 tax return. Your 2011 tax return must cover all 12 months.” Use Form 1040ES, “Estimated Tax for Individuals,” to file.

Extensions for Filing 2010 Returns

Let’s say your client needs to extend their 2010 income tax filing because they are waiting for limited partnership Form K-1s, which often arrive after Tax Day. Clients who need an extension on filing 2010 returns beyond the April 18 IRS deadline (everyone gets the extra weekend because the 15th is a holiday in Washington DC this year—Emancipation Day) can get an automatic extension for filing but they must pay what it is estimated that they owe for 2010, by Tax Day.

The IRS lists six tips to help clients figure out if they must pay estimated taxes for 2011”

“If you have income from sources such as self-employment, interest, dividends, alimony, rent, gains from the sales of assets, prizes or awards, then you may have to pay estimated tax.

As a general rule, you must pay estimated taxes in 2011 if both of these statements apply: 1) You expect to owe at least $1,000 in tax after subtracting your tax withholding (if you have any) and credits, and 2) You expect your withholding and credits to be less than the smaller of 90% of your 2011 taxes or 100% of the tax on your 2010 return. There are special rules for farmers, fishermen, certain household employers and certain higher income taxpayers.

For Sole Proprietors, Partners and S Corporation shareholders, you generally have to make estimated tax payments if you expect to owe $1,000 or more in tax when you file your return.

To figure your estimated tax, include your expected gross income, taxable income, taxes, deductions and credits for the year. Use the worksheet in Form 1040ES, Estimated Tax for Individuals for this. You want to be as accurate as possible to avoid penalties. Also, consider changes in your situation and recent tax law changes.

The year is divided into four payment periods, or due dates, for estimated tax purposes. Those dates generally are April 15, June 15, Sept. 15 and Jan. 15.

Form 1040ES, Estimated Tax for Individuals, provides all you’ll need to pay estimated taxes. This includes instructions, worksheets, schedules and payment vouchers. The easiest way to pay estimated taxes, however, is electronically through the Electronic Federal Tax Payment System or EFTPS. You can also pay estimated taxes by check or money order using the Estimated Tax Payment Voucher or by credit or debit card.”