Pay or Not to pay estimated taxes

[AZ-Tax]

As I understand it, 90% of the previous tax years (2008) tax liability needs to be paid in by Jan 15th, 2010 or had to be withheld from their 2009 W-2, 1099-R etc.. or a combo of the 2 Correct?

A client calls yesterday and withdrew money from their annuities in 2009. No income tax was withheld nor mailed in and they believe they will owe $10K of income taxes on that transaction. I myself have not yet look at it. In 2008 this clients computed Fed income tax was $10500 and had $12K withheld from 1099-R's therefore received a refund but did not increase their Fed withholding in 2009. Assuming the $10k is the correct amount, does my client need to mail a check to the IRS asap to minimize any interest and/or penalties? OR can my client wait and pay the additional Fed income tax on 4/15/10 (via credit card) and not be charged any interest and/or penalties?

[JohnH]

It depends upon when they withdrew the money from the annuity. And if they pay by Apr 15, interest isn't an issue - only the estimated tax penalty. Depending upon timing, they may already owe an estimated tax penalty that they can't completely eliminate even if they pay the full amount owed by Jan 15. I believe you need more info concerning the timing and amount of the withdrawals before giving them an answer.

But even in the worst case, I can't see them owing more than $400 or so in estimated tax if they wait until Apr 15, which would be possible to reduce to around $250 by paying on Jan 15. So how much anxiety do you & they want to go through for $150, especially since it didn't seem to be important to them until the last minute? They didn't bother to discuss it with you at the time of the withdrawal when the penalty could actually have been dealt with properly, so I'm asking myself why should they get all fidgety about it now?

[OtisMozzetti]

Use of Prior Year's Tax

As I understand it, 90% of the previous tax years (2008) tax liability needs to be paid in by Jan 15th, 2010 or had to be withheld from their 2009 W-2, 1099-R etc.. or a combo of the 2 Correct?

When the prior year's tax is used to determine the (federal) estimated tax requirement, it is based upon 100% (or upon 110% if AGI exceeds $150K), not upon 90%, of the prior year's tax.

The estimated tax requirement has to be paid on a particular schedule, namely some of it by each of the dates April 15, June 15, and Sept. 15, even before Jan. 15 of the following year.

The "90%" you were thinking about is probably that estimated tax requirement can also be determined by 90% of the current year's tax liability if that results in a lower payment requirement.

[Jesse]

From TheTaxAuthority Update Service:

Estimated Tax Payments

New law. For 2009, the above safe harbor percentages are reduced to 90% for qualified individuals. An individual is qualified if:

• AGI in the preceding year is less than $500,000 ($250,000 MFS), and
• The individual certifies that more than 50% of the gross income shown on the return for the preceding year was income from a small business.

Income from a small business for purposes of this rule means income from a trade or business with an average of less than 500 employees for the preceding year.
Author’s Comment: This new rule does not apply to C corporations. However, it can apply to estates and trusts if the estate or trust holds a qualified small business within the estate or trust. AGI for purposes of an estate or trust is determined under Section 67(e).

This might also be the 90% change you're thinking of, however it doesn't sound like your client qualifies for the exception.

[Nashville]

Lots of Confusion

I get lots of questions from clients as to how much they should pay in estimated taxes.

I can always tell them an amount to pay to guarantee they won't be penalized. But that doesn't always fit the circumstances. If a client is having a bad year, the safe harbor requirements are ridiculous. Such a client doesn't want to have to pay 110% of last years' tax, but he wants US to tell him how much to pay for THIS year.

And then if he doesn't pay in enough, he is on OUR doorstep wanting to know why he got penalized. The underpayment penalty is simply an attempt on the part of the govt to recover the interest on amounts which should have been paid during the year. Customers who complain about this are often paying triple the amount of interest to a bank on the same amount of money, but they don't go running complaining to the bank. There has to be some economic middle ground, and I am always making myself clear to my clients that if you don't pay in the safe harbor amount, I can't guarantee ANYTHING.

At the state level, I have advised a few of my clients to not pay anything. Alabama in selected shortfall years will hold EVERYONE's tax refund until they get the money. Some of the other states are doing the same thing. I advise people in those states to start claiming 99 dependents and cease paying estimated payments, or at least curtail them to the extent they are certain there will be no refund. The thing that's really bad is the states will send you a 1099-G for refunds even if they never mail you a check.

[Jesse]

A client calls yesterday and withdrew money from their annuities in 2009. No income tax was withheld nor mailed in and they believe they will owe $10K of income taxes on that transaction. I myself have not yet look at it. In 2008 this clients computed Fed income tax was $10500 and had $12K withheld from 1099-R's therefore received a refund but did not increase their Fed withholding in 2009. Assuming the $10k is the correct amount, does my client need to mail a check to the IRS asap to minimize any interest and/or penalties? OR can my client wait and pay the additional Fed income tax on 4/15/10 (via credit card) and not be charged any interest and/or penalties?

I'm not sure if I'm understanding the situation correctly so these are my assumptions:.

-Last year the his income tax liability was $10,500 and because he had excess withheld he received a refund of $1,500 ($12,000 - $10,500).

-He did not increase his withholding so if he received the same retirement income in 2009 he had approx the same $12,000 withheld?

If this is correct the $12,000 withheld would be enough to avoid underpayment penalties from the annuity as it is over 100% of 2008's tax liability. He would have until 04/15/2010 to file and pay the additional tax and not be charged any interest and/or penalties.

[ChEAr$]

At the state level, I have advised a few of my clients to not pay anything. Alabama in selected shortfall years will hold EVERYONE's tax refund until they get the money.

Hold the phone there, friend.

Alabama has a drastic little penalty of at least $50 if underpayment is less than 100$
(translated: $99 or less!) Of course the penalty increases proportionate to the balance
due.

So before they came up with this penalty maybe 10 years ago, your advice was sound.

However, they do have exceptions to the penalty, the # 1 on the list being "death of
taxpayer".

[FEDUKE404]

Working on those estimates

I generally choose to do protective estimates (pay more than last year's liability) unless there is a clear reason to decrease the payments. An example would be a taxable gain from a stock sale that will not recur. Sometimes a client with a "new" large gain will want to pay up front, but even then in most cases a protective estimate will still suffice. With today's ridiculous interest rates, it's hardly worth the effort either way unless there is a cash flow issue looming.

My clients frequently "check in" as the year progresses.

At this time of year (hurry!!) I get many calls related to prepaying the 4th quarter state estimated payment. There can be valid reasons to pay by 12/31/09 versus 01/15/10. For others, it makes no difference so why pay early?

As Jesse noted, it would appear the client will not be exposed to any underpayment penalties. I would suggest that, if you are talking about a lot of money being due, you consider calculating the state taxes and paying them prior to....tonight....to snag a larger 2009 itemized deduction.

It is worth noting, as others have, that merely paying "everything" does not necessarily remove the underpayment penalty. Estimated payments must have been made in a timely manner, and the IRS tracks the date of all payments. For unusual events, such as a large amount of income that arrives in December, the penalty can be abated frequently by working on the second page of Form 2210. But sometimes, it is more cost effective just to pay the money instead!

Another useful approach for someone who "fell behind" in payments is to have the employer (if any) take out a large amt of federal/state withholding near the end of the year....but again you better hurry!

FE

[JohnH]

I may have read more into the original post than was intended, but I took it to mean that the client had withdrawn funds from an annuity earlier in the year with no withholding. The estimate appeared that the client would owe about $10K and they were calling at the last minute with one of those demands to "Keep me from paying any penalties".

If I'm wrong, I assumed AZ-T would provide more info. If I'm right, the answer is basically "You should have called me before you took the withdrawal."

[Nashville]

Hold the Phone?

Hold the phone there, friend.
So before they came up with this penalty maybe 10 years ago, your advice was sound.
However, they do have exceptions to the penalty, the # 1 on the list being "death of
taxpayer".

Yes my friend, we have had to deal with the penalty of which you speak as a result of my advice, and I am forthright enough to disclose its existence to clients when planning our strategy.

Most of them would rather deal with the penalty than to put up with Alabama's tardiness, believe it or not. In some cases, the penalty would be less than interest from the bank. Also we have been successful in getting some of these penalties removed because the situation is often coupled with some colossal screw up on the part of the Dept of Revenue.

In particular with Alabama (and ONLY with Alabama) is a strategy I use when the Dept fails to acknowledge a payment, even though the payment has cleared the bank. My strategy is to include the disavowed payment as an estimated payment for the following year. For some reason, THIS gets their attention, and they will work to correct the situation. One time this really hacked off an ADOR employee and he sent an auditor out to audit my client. Audit resulted in no adjustments and the lady said she knew exactly what I was talking about and didn't blame me.

[abctax]

But...

"...if you are talking about a lot of money being due, you consider calculating the state taxes and paying them prior to....tonight....to snag a larger 2009 itemized deduction."


But don't forget to factor in alternative minimum tax in determining whether paying the state by 12/31 is worth it. I've done several in the last few days that resulted in NO benefit due to AMT.

[FEDUKE404]

AMT interference

"...if you are talking about a lot of money being due, you consider calculating the state taxes and paying them prior to....tonight....to snag a larger 2009 itemized deduction."


But don't forget to factor in alternative minimum tax in determining whether paying the state by 12/31 is worth it. I've done several in the last few days that resulted in NO benefit due to AMT.

Your client base must be far "richer" than mine and/or you live in a high tax state.

But your point is one of note.

FE

[S T]

State ES

Yes State ES paid is an issue for AMT - Had a couple of those this last week whether to pay in 2009 or 2010 and then try to project into 2010. And then of course the subsequent year (2010) will be another issue


Sandy

[abctax]

California

"...Your client base must be far "richer" than mine and/or you live in a high tax state." - California

FE - does that answer your question ?!?! <w>

[S T]

Yes Calif

Sorry, I forgot to post that it was California taxpayers I was referring to- Won't say rich in California, but prepaying some Calif taxes has been an issue with AMT the last few years

Sandy