Question

Calculating penalties for underpayment of Estimated Taxes

Forum|Forum|5 years ago
October 12, 2020
3 replies
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I have always been a W2 employee, and for the first time in 2020, I worked as a sole proprietor / individual contractor with no employees. I have not made any estimated payments to the IRS so far.

In 2020, I made $100K from 1099 contract work as a sole proprietor / individual contractor (from Jan 1-Apr 31). However, I will not receive a 1099 form until February 2021, and looking at some sample 1099-MISC forms (sample: https://cdn-0.smallbiztrends.com/wp-content/uploads/2014/01/1099-misc-sample-large.jpg), it looks like the form is not going to report / capture the dates when income was earned.

I recently learned that the Q4 estimated tax payments are not due until Jan 15, 2021, and am trying to figure out if I will owe any penalty for underpayment / no payment of estimated taxes. If the interest clock has already started and I am being penalized every day, then I will need to take action immediately (instead of by Jan 15, 2021, which would give me more time and I am obviously hoping is the case).

Would the IRS assume that the income was evenly earned throughout the year? Or will they give the independent contractor the benefit of the doubt and start calculating estimated tax underpayment penalties (at 3-5% of taxes owed) after Dec 31, 2020?

(I found that the IRS website has a long, complicated document and worksheet on figuring this out, but I could not find an answer to my question. I also posted a similar (albeit slightly different question) here and @Critter-3 pointed me to some helpful links. I ended up getting a paid subscription to https://selfemployed.intuit.com/ but was underwhelmed by the tools available - it does not calculate or tell me anything about estimated tax penalties..so I am asking a more targeted question here.)

Would I owe estimated taxes for 2020? If there is an underpayment penalty, what will it be (based on the numbers I shared) and is there a way to avoid it now?

Note: I had a small $100-200 underpayment penalty (as a W2 employee) in 2018, which I paid immediately (as part of TurboTax) when I did my taxes in Apr 2019. I mention this because I would also like to know about the penalty relief waiver mentioned here, and whether I would qualify.

@VolvoGirl @Irene2805 @TomYoung I am tagging you because you seem to have answered similar questions earlier. I would appreciate your input.

TurboTax Self Employed Online

Carl11_2

Employee

Here's my two cents.

Would the IRS assume that the income was evenly earned throughout the year?

Yes. However, there are forms (included in the TurboTax program) that allow you to specify your business income/expenses for each quarter, and that can reduce or in some cases totally eliminate the late payment penalties. For example, if you opened your business in the 2nd quarter of the year, the IRS will assume otherwise and the program may figure a non-payment penalty for the first quarter. But using options in the program you can indicate that you made 0$ income in the first quarter, and the penalty for that quarter would just "go away". I'm not getting into the program details of that right now, because those details flat out do not matter until you actually start your 2020 tax return, next year.

(I found that the IRS website has a long, complicated document and worksheet on figuring this out,

In my personal opinion, (and we all know what those are like!) don't waste your time with those worksheets. But you most certainly can if you like inducing self inflicted permanent brain damage. 🙂 I've been self-employed for over 15 years now. What I do is send the IRS 20% of my *GROSS* business income each quarter. Then at tax filing time I am "always" well within $1000 of my total tax liability. The IRS rules are, if what you owe at tax filing time is more than $1000 or more than 10% of your total tax liability, whichever is *HIGHER*, then an underpayment penalty will be assessed.

With my self-imposed 20% rule, I have always been within $500 of my tax liability with only two years where I owed the IRS, instead of getting a refund. Of those two years I owed, the highest I owed was $472. Not an issue. I just wrote the check payable to United States Treasury and called it good. So did the IRS. No penalties, late fees, interest or anything of the such.

Would I owe estimated taxes for 2020?

If your business has W-2 employees, then you are "required" to submit payroll taxes to the IRS at least quarterly, and if the wages are high enough it could be required monthly. Same holds true for your state, if your state taxes personal income. State taxes are completely separate from federal taxes, so you can not pay state taxes at "ANY" irs.gov website.

As for estmiated taxes on "your" business income, if you don't pay estimated taxes and at tax filing time what you owe is over the thresholds mentioned above, then yes you need to pay estimated taxes. The sooner you pay those taxes for the quarters you're late on, the better. You can pay the IRS "right now" if you want, at www.irs.gov/payments. Pay attention to details on that website so that you pay for the correct tax year. If you pay for the wrong year or wrong quarter, there is "NO" "POSSIBLE" "WAY" to fix it.

I would also like to know about the penalty relief waiver mentioned here, and whether I would qualify.

I don't see why you wouldn't qualify, provided to pay your "catchup" quarterly taxes as soon as feasibly possible. But understand that the IRS can only waive penalites and fines. The IRS can not and will not waive any interest, because the law (i.e.; Congress, who made the law) says they can't. So the sooner you pay past due quarterly payments, the better.

A

Anonymous_

Employee

@Carl11_2 wrote:

.....The IRS rules are, if what you owe at tax filing time is more than $1000 or more than 10% of your total tax liability, whichever is *HIGHER*, then an underpayment penalty will be assessed.

Those are not the IRS rules, which are correctly reproduced immediately below.

In general, taxpayers don’t have to pay a penalty if they meet any of these conditions:

They owe less than $1,000 in tax with their tax return.
Throughout the year, they paid the smaller of these two amounts:
- at least 90 percent (however, see 2018 Penalty Relief, below) of the tax for the current year
- 100 percent of the tax shown on their tax return for the prior year – this can increase to 110 percent based on adjusted gross income.

See https://www.irs.gov/newsroom/basics-of-estimated-taxes-for-individuals

VolvoGirl

Employee

By the way there is a new 1099 form for 2020. Instead of 1099Misc it is a 1099 NEC for non employee compensation. https://www.irs.gov/pub/irs-pdf/f1099nec.pdf

When you file your tax return if you have a penalty you can try to reduce or eliminate it by filling out form 2210. Have you seen that one? You will need to scroll down and use page 3 or 4,

https://www.irs.gov/pub/irs-pdf/f2210.pdf

Instructions https://www.irs.gov/pub/irs-pdf/i2210.pdf

VolvoGirl

Employee

And yes Turbo Tax will fill out form 2210. You didn't find it?

It's under
Federal or Personal (for H&B version)
Other Tax Situations
Additional Tax Payments
Underpayment Penalties - Click the Start or update button

Critter-3

filling in the 2210AI is not that difficult if you use a bookkeeping system where you can print off P&L reports for the needed time frames

T

TomYoung

Employee

"I recently learned that the Q4 estimated tax payments are not due until Jan 15, 2021, and am trying to figure out if I will owe any penalty for underpayment / no payment of estimated taxes."

That's the due date for the last of 4 estimated tax payments for 2020. The estimated tax due dates for 2020 were April 15 – extended to July 15, 2020, June 15 - Extended to July 15, 2020, and September 15, 2020. Since you earned your $100K pretty much entirely in the 1st quarter of 2020, you should have been making payments at each of those dates, assuming that you needed to.

"Would the IRS assume that the income was evenly earned throughout the year?"

Yes, and that works to your benefit here. Instead of having income of $100K in the first quarter - meaning that every quarter the penalty will be based on $100K earned "year to date", the penalty will be calculated on $25K in the first quarter, $50K in the second quarter, and so on.

"Would I owe estimated taxes for 2020?"

Almost certainly. There are instances where you wouldn't need to pay estimated taxes, e.g., this was the first tax return you were ever required to file, but that's not the case here. Figure out a rough estimate of taxes owed - income taxes and SE taxes - and pay it as soon as you can. I can't think of any way of avoiding the penalty.

VolvoGirl

Employee

Since you are new to self employment here is some general info......

You will need to keep good records. You may get a 1099Misc or 1099NEC at the end of the year if someone pays you more than $600 but you need to report all your income no matter how small. You might want to use Quicken or QuickBooks to keep track of your income and expenses.

There is also QuickBooks Self Employment bundle you can check out which includes one Turbo Tax Online Self Employed return....

http://quickbooks.intuit.com/self-employed

When you are self employed you are in business for yourself and the person or company that pays you is your customer or client.

To report your self employment income you will fill out schedule C in your personal 1040 tax return and pay SE self employment Tax. You will need to use the Online Self Employed version or any Desktop program but the Desktop Home & Business version will have the most help.

Here is some IRS reading material……

IRS information on Self Employment

http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Self-Employed-Individuals-Tax-Center

Pulication 334, Tax Guide for Small Business

http://www.irs.gov/pub/irs-pdf/p334.pdf

Publication 535 Business Expenses

http://www.irs.gov/pub/irs-pdf/p535.pdf