How to Calculate Estimated Taxes

There are three approaches to estimating your tax for they year:

  • Use your prior year's tax return.
  • Estimate your taxes from scratch.
  • Use the safe harbor approach.

Use Your Prior Year's Tax Return

  • If you expect your current year income and deductions to be about the same as your previous year, base your current year estimated taxes on your prior year return.
  • Your prior year return must cover a full 12 months.
  • Apply the current year tax rates to your prior year taxable income.
  • Make sure you pay at least 90% of your expected annual tax liability to avoid an underpayment penalty.
    • Example: If your annul estimated federal income tax liability plus your self-employment tax liability total $8,000, multiply $8,000 by 90%, which equals $7,200.
    • The $7,200 is your required annual tax payment. At least this amount must be paid in order to avoid an underpayment penalty.
    • Now, to figure your minimum quarterly estimated tax installment:
      • Divide the $7,200 by 4, which equals a minimum quarterly installment of $1,800.
      • You can remit the $1,800 using Form 1040-ES, Individual Estimated Tax Voucher.
  • Each quarterly minimum installment stands on its own.
    • This means, you must pay at least 25% of your annual liability each quarter.
    • If you pay less than 25% each quarter, you will be subject to an underpayment penalty for the quarter that is short.
      • Making up the short payment for one quarter in a future quarter does not eliminate the underpayment penalty for the quarter that was short.

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