As you already know, your 1999 tax return filing date is next Monday, April 17th. But if you’ve only recently become self-employed or started doing a bit of freelance or contract work on the side, you may not realize that next Monday is also a deadline for your 2000 taxes.
Who has to pay?
If you have any income that is not subject to withholding, you may have to start paying your 2000 taxes now. Even if you aren’t fully self-employed, you may have extra income from teaching a class, offering freelance programming, or doing some consulting work. If no taxes were withheld from your compensation for such activities, you may need to make tax payments throughout the year.
To avoid penalties from the IRS, you must pay the smaller of the following amounts during the year 2000, either through withholding or by making estimated tax payments:
- 90 percent of the total tax you will owe for the year 2000
- An amount equal to the tax you paid for the 1999 tax year
So, if you’re completely self-employed and none of your income is subject to withholding, you’ll obviously have to make estimated tax payments. Even if you’ve kept your day job, it won’t take much freelance income to increase your income to the point where your paycheck withholding won’t cover your taxes. Although you may not face a penalty in this case because your withholding will be the same as last year, you could be surprised by a huge tax bill next year. So, you may want to use one of the following methods to track your income and how much extra you’ll have to pay.
Finding the forms
If you have to pay estimated tax, you’ll need the following publication (for instructions and worksheets) and form (for the vouchers and instructions on where to mail your payments). You can use the URLs here or search from the IRS’s search page at http://www.irs.ustreas.gov/forms_pubs/findfiles.html:
- Publication 505: Tax Withholding and Estimated Tax (http://ftp.fedworld.gov/pub/irs-pdf/p505.pdf)
- Form 1040-ES, Estimated Tax for Individuals (http://ftp.fedworld.gov/pub/irs-pdf/f1040e00.pdf)
Don’t forget that if you pay state income tax where you live, you’ll also need an ES form for your state as well.
How much do you have to pay each quarter?
As I’ll detail in the next section, if you won’t end up paying either 100 percent of last year’s tax bill or 90 percent of this year’s obligation, you must make four estimated tax payments per year. You must make a payment for any quarter in which you have taxable income that is not subject to withholding.
You have three options for paying your taxes:
- Paythesameamountasyour1999taxinfourinstallments. This is a good option if you will make more money this year than last, although you should track how much you owe to make sure you can pay the extra.
- Estimateyourtaxduefor2000andpayone-fourththatamounteachquarter. Use this method if you have a good idea what your income will be this year and you are certain it will be less than last year.
- Baseyourpaymentsontheactualincomeineachquarter. Go this route if you aren’t certain how much money you will make this year but do think it will be less than last year.
Pay the same tax as last year
If you think your income this year will be greater than your income last year, then you can make the minimum possible payment and avoid penalties by simply paying the same amount of tax this year as you did in 1999. This method allows you to keep your money longer and have it earn interest for you.
To use this method, simply check your 1999 return for your total tax bill, divide that number by four, and pay that amount every quarter on the due date. If you still have income subject to withholding this year, figure out the amount of withholding for the year and pay any difference with estimated payments.
However, if your adjusted gross income for 1999 was greater than $150,000 (if filing separately), you must pay 105 percent of the previous year’s tax to avoid penalties. This percentage will change over the next few years; see Publication 505 for more details.
An important caution with this method is that if you owe additional tax, although you won’t be penalized, you will of course have to come up with the extra money. To avoid a huge surprise tax bill, keep tabs on your income minus your deductions as compared to the same point last year—you may want to use one of the worksheets in Publication 505. If it starts looking like you’ll owe significantly more, you may want to set money aside in a special account.
Average the income
If you know you will make significantly less money this year than you did last year, paying the same amount in taxes doesn’t make sense—it’s better to keep that money and earn interest instead of letting the government hold it and return it to you next year. This can be a good option when you’ve lost an important client, plan to work fewer hours this year than last, or expect a downturn in business for whatever reason.
If this is the case, you can make four equal payments based on your estimated income (or use the method in the next section). For help in determining your payment amount, you can use the IRS’s 2000 Estimated Tax Worksheet included in Publication 505. You’ll estimate your income, your deductions, and the self-employment tax and deduction to arrive at your estimated tax for the year. You then divide that number by four and pay that amount each quarter.
Pay according to what you make
Many freelancers and contractors experience more spikes and dips in their income flow than last week’s Nasdaq chart. If you expect to make less money this year than next but don’t feel confident that you can estimate that amount or your deductions and expenses with at least 90 percent accuracy, you can pay each quarter based on the money you actually made minus your deductions.
For this method, use Publication 505’s 2000 Annualized Estimated Tax Worksheet. At the end of each quarter, you enter your adjusted gross income for that period (your income minus your self-employment tax and deduction, which you calculate on another worksheet), followed by your itemized and standardized deductions. The worksheet extrapolates that quarter’s income over the entire year and multiplies it by the “applicable percentage” to determine the tax you owe for that quarter.
Note that the IRS-supplied percentage here comes out to only 90 percent for the year, not 100 percent, so you must be sure not to underestimate your income. If you end up owing more tax than you paid using these percentages, you could face a penalty.
When do you pay?
You pay estimated tax every quarter, although not every IRS quarter is three months long. Instead, use the schedule shown in the following table. If you don’t file on the calendar year, you’ll make payments on the 15th day of the 4th, 6th, and 9th months of your tax year and of the 1st month after your tax year ends.
|Quarter||From||Payment due date|
|First||January 1 to March 31||April 17|
|Second||April 1 to May 31||June 15|
|Third||June 1 to August 31||September 15|
|Fourth||September 1 to December 31||January 16, 2001|
If you file your entire 1040 return and pay all tax due by Jan. 31, 2001, you will be able to skip the Jan. 16, 2001 payment. However, I have yet to receive all my 1099 forms from my various clients in time to meet this deadline, so I have always had to make the mid-January payment.
Be sure to pay the amount due by its due date. The IRS has the option to charge a penalty if you underpaid for any particular quarter even if you paid the correct amount of tax for the year or overpaid in another quarter. Although they’d catch this only if you’re audited, it’s better not to take the risk.
If you have any doubts about your tax liability, consult a tax professional. To comment on this article, please post a comment below or follow this link to write to Meredith.
Meredith Little has worn many hats under the broad term of freelance writer, including technical writer, documentation specialist, trainer, business analyst, photographer, and travel writer.