One of the lessons learned over the past several months is that we cannot succeed and/or thrive without the support of others. The pandemic has shed a light on just how connected and intertwined our world is. Our economies and livelihoods are linked with each other. We have learned that our actions have consequences, positive and negative, beyond our own bubbles.
The impacts of the virus will be felt long after a vaccine and herd immunity is reached. The way we live, the hobbies we have, the jobs we perform and the way we interact with each other will all have changed in some way or another. Will it be different? Yes. Will it be better? That depends on you.
A fellow CPA and friend of mine, Michael Wall, recently wrote about three things – Routine, Habit and Normal. He talked about how each of these has been impacted by the pandemic and as a result, a lot of stress and anxiety has been created – not because of the virus but because of changes in our routines, habits and what is normal. His words struck me as something I needed to ponder more.
My weekday routine used to be awake, scan the email inbox for anything that needed attention today, read a few articles, get up and shower, take my vitamins, drive to work, work, drive home, have family dinner, work on home projects, read, bedtime. The routine has been altered significantly since working from home started. In addition, the virus impacted tax season and time that would have normally been spent on now cancelled family vacations was spent on taxes. Energy spent without a recharge.
My habits have changed too. The proximity of my temporary office is a lot closer to the kitchen than it used to be and I have gained some weight. I have had to force myself to get away from the house to do something different.
My normal is different than it used to be. My bet is that yours is too. I wear a mask when in public spaces (because I care about the people around me and if it helps stop the spread, even a little, I will show I care.) My days often blend into each other. I have no vacations to look forward to or plan for. There are days I don’t leave the house. We don’t see family or do things with neighbors or friends.
Changes to these three things have created stress and anxiety for me. I generally deal with both well but there have been times I have needed to talk, get out, or do something completely different to reset mentally. That is okay.
Now we must ask ourselves what new habits we want? What new routines do we want? What new normal do we want? We can all twist, pry, shape and mold these to become better and make positive changes during these times. Some may also have to deal with negative changes such as job loss, health challenges, loss of a loved one, and loss of a business to name a few. While these changes do add extra challenges, I do think we can still rise higher through them. We can help and support one another to all make a better ”new.”
In a normal year, your first quarter estimated tax payment, your tax return or your tax return extension and payment would all be due on April 15th and your second quarter estimated tax payment would be due on June 15th. This is not a normal year. This year all of the above are due July 15th. So, how much should you pay in estimated taxes? Do you even need to pay estimated taxes?
As employees, the employer takes out a portion of your paycheck as taxes and remits it to the government. When you are self-employed, you may have higher take home pay than your employee friends. That said, the government still wants their share of your earnings. They want it at least quarterly. At the end of each “quarter”, the IRS requires you to pay the tax on the business profits as well as any self-employment taxes that might be owed.
If you expect to owe at least $1,000 in federal taxes for the year, you will be required to make estimated tax payments if you are an employee, sole proprietor, partner in a partnership, S-Corp shareholder, or member of a limited liability company or pay a penalty for failing to pay them. If you had no tax liability last year (paid no taxes), you do not need to make estimated tax payments this year but you may if you choose to. Making or not making estimated tax payments does not mean you will not owe taxes at the end of the year.
The IRS wants you to pay the smaller of at least 90% of the tax due for the current year or 100% of the prior year (110% if prior year income was more than $125,000) to avoid penalties. The easiest way is to pay the 100% or 110% of last year rather than having to calculate your current income each quarter under the annualized income installment method.
Estimated taxes should be paid on April 15th for the first quarter (January/February/March); June 15th for the second quarter (April/May); September 15th (June/July/August), and January 15th of the following year for fourth quarter (September/October/November/December). This year, 2020, the first two payments are due on July 15th. You can pay by check, electronic funds transfer or by credit card (subject to additional fees). You send these payments on a Form 1040-ES.
States may also require estimated tax payments.
Using the safe harbor calculation (no penalty assessed) amounts above may leave you over or under paid for tax due on the current year taxable income. Most people are okay with the refund resulting from an overpayment but are less happy about owing when they go to file their return. If you want to double check your numbers, you can use an annualized income method to calculate the tax.
To start, you would figure out your year-to-date income/profit and use 15.6% for payroll taxes and the tax rate your income will fall in at year end. The United States of America uses a tiered progressive tax model, meaning the higher your taxable income, the higher your tax rate will be but to promote fairness, everyone pays the same rates on the same income amount (i.e. someone who has taxable income of $50,000 and another with taxable income of $500,000 will pay the same amount of tax on that first $50,000). Because of this, you will have a tax bracket, or the rate where your last taxed dollar falls into, and an effective tax rate, or the blend of the rates as you move up the income scale, which will generally be lower. The tax brackets range from 0% to 37%. (Visit IRS.gov and search for “tax rates” to see the current year rates). The married filing joint income brackets are twice the single filer until the 35% bracket. Multiplying the estimated taxable income by the estimated tax rate and adding any self-employment tax to it will give you an estimate of what will be due.
To avoid the penalty, make at least the safe harbor (100% or 110% of prior year tax) as estimated tax payments, unless your income will be significantly lower in the current year. If your income will be higher in the current year, you can calculate the tax on the increase from prior year and add it to your estimates if your want to owe less at tax filing time.
As always, you can also reach out to your CPA to have them help you calculate both the safe harbor amounts or annual income installments.
This blog allows you to experience the raw, gut wrenching drama of human conflict through accounting in each of its three stages: preparing to do battle, the thrill of victory and the agony of defeat.