THIS ARTICLE is excerpted from Easy Tax Guide for Writers, Photographers and Other Freelancers, by Julian Block. praised by law professor James E. Maule of Villanova University as "An easy-to-read and well-organized explanation of the tax rules. Writers, photographers and artists would be well advised to buy this book."
Available at julianblocktaxexpert.com.
Julian Block, an attorney in Larchmont, N.Y., has been cited as "a leading tax professional" (New York Times); "an accomplished writer on taxes" (Wall Street Journal); and "an authority on tax planning" (Financial Planning magazine).
PAYING ESTIMATED TAXES
Tips for Home-Business Owners, Freelancers,
by Julian Block
THE IRS CAUTIONS freelancers and other self-employed individuals to stay on top of the deadlines for filing federal tax returns and the due dates for making payments. Miss just one, says the IRS, and it might exact a sizable, nondeductible penalty, which is based on the agency’s current interest rate for back taxes.
Who must make estimated payments? The tax code mandates that individuals submit payments when their estimated tax exceeds $1,000, including any self-employment tax.
The IRS zeroes in on individuals with income from sources not subject to withholding of taxes. Mainly, they are:
Due dates for payments. The deadlines are April 15, June 15, and Sept. 15 of the current year and Jan. 15 of the following year. However, the IRS allows individuals to skip January’s payment, provided they submit their returns and pay their tax in full by February 1 of the following year.
Part-time writers and others. You’re not excused from making estimated payments just because you’re a part-timer, as when you moonlight from your home as a writer and have a full-time job elsewhere. An IRS-approved way to avoid making those payments on the writing income: File a revised W-4 form with your employer and increase your income tax withholding from paychecks. This maneuver works only when withholding is enough to cover the taxes on your salary and on your writing.
Avoid unnecessary payments. Remember to take account of withholding on what you or your spouse receive from salaries, wages and other types of compensation. Also count an overpayment of taxes for the previous year hat you elected to apply to your bill for the current year.
And be mindful that the IRS imposes penalties for failing to pay sufficient tax during the year through withholding or estimated payments, as well as for failure to pay required installments on time as they become due. It matters not that your final estimated payments are sufficient to erase any balance due when you submit your 1040 form.
Atone for an estimated tax shortfall with increased withholding from paychecks. Suppose you’re in danger of being penalized for insufficient estimated payments throughout the year. Will the IRS forget about penalties for underpayments in the three previous quarters if you pay the shortfall through an increase in your last quarterly estimated payment? That won’t work. What works is to make up the shortfall through increased withholding from wages (or from sources such as Social security benefits, pensions, and money removed from IRAs and other kinds of tax-deferred retirement plans) towards the end of the year. The IRS allocates withholding equally over each of the four payment periods. Consequently, boosting withholding can retroactively lessen or eliminate penalties when a similar increase in an estimated payment might not.
Take advantage of the "safe harbor" rules. Another IRS-blessed way to avoid penalties is to qualify under one of the “safe harbors” or exceptions. They excuse you from any penalties for underpayments of more than $1,000 for withheld or estimated taxes. (No penalties for underpayments of less than $1,000.) You’re excused only if you satisfy a two-step requirement:
The exception based on the prior year’s tax is available even if the amount due was zero, provided the return covered 12 months, as it ordinarily would.
As the prior-year exception uses a fixed number, it’s the easiest way for most individuals to figure their payments and dodge underpayment penalties. To illustrate, your payments total $12,000 for the previous year and $12,000 for the current year. With those kinds of numbers, you’re home free, no matter how much you owe when you file for the current year.
Stricter rules apply when adjusted gross income (the amount on the last line of page one of Form 1040) exceeds $150,000 ($75,000 for married couples who file separate returns). To use the 100-percent escape hatch, payments must equal 90 percent of the current year's tax liability or 110 percent of the previous year's total tax—again, whichever is less.
Another exception is available for someone who pays ninety percent of the current years total tax, figured by “annualizing” income actually received by the end of the quarter in question.
The annualizing exception helps those whose incomes unexpectedly increase or fluctuate throughout the year, as when a freelance writer receives book royalties in December of the current year. But be warned: this calculation is complicated.
Help from the IRS
For more detailed information, get a free copy of Publication 505, "Tax Withholding and Estimated Tax," available at IRS.gov, or call 800-TAX-FORM.
Copyright © 2015 by Julian Block