While Completing Preparation of 2022 Income Tax Returns, Some Employees and Retirees May Have to Make Estimated Tax Payments During 2023.
Edward A. Zurndorfer -
Many federal employees and annuitants receive income during the year that is not subject to federal and state withholding taxes. Among these income-types are investment income (interest, dividend and capital gain income), self-employment income and rental income. But it makes no difference as to the type of income or the source of the income as far as the IRS is concerned. The IRS wants to collect as much of the tax due as soon after the income is earned and received. This column discusses why some federal employees and employees need to make quarterly estimated tax payments to the IRS and, for some employees and retirees, to state revenue departments.
Some background information about why some individuals need to make quarterly estimated tax payments. The US tax system works on a “pay-as-you-earn-basis”. That is why employers withhold federal and state income taxes, Social Security (FICA) and Medicare Part A (hospital insurance tax) taxes from employee salaries and remit these withheld to the IRS on a monthly or weekly basis. The US Treasury’s goal is to receive the taxes due on taxable income that is not subject to withholding on a regular basis. This is done through estimated tax payments. To accomplish this, the IRS and state revenue departments have set up a timetable calling for estimated tax payments four times a year. Although the payments are commonly called “quarterly”, the payments do not coincide with calendar year quarters. The following table summarizes the “quarterly” income periods and due dates for the estimated tax payment for calendar year 2023:
|Quarter Number||For Income Received||Estimated Tax Due|
|1||Jan. 1 – Mar. 31, 2023||April 18, 2023*|
|2||Apr. 1 – May 31, 2023||June 15, 2023|
|3||June 1 – Aug. 31,2023||September 15, 2023|
|4||Sept. 1 – Dec. 31, 2023||January 16, 2024|
*Normally April 15. However, April 15, 2023 falls on a Saturday and Monday April 17, 2023 is Emancipation Day (a legal holiday in the District of Columbia.) The IRS decided to delay the first 2023 Estimated Tax payment due date to the next business day, April 18, 2023.
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The IRS recommends that individuals calculate the estimated tax liability amount for the entire year, divide that amount by four and send in payments according to the schedule. There is a worksheet with the Form 1040-ES package or as part of the tax software package such as Turbo Tax. The Form 1040-ES package can be downloaded by going here.
A paper check along with the Form 1040-ES payment voucher can be sent to the IRS Service Center each quarter. Alternatively, an individual can file electronically with a credit card by enrolling in the IRS’ Electronic Federal Tax Payment System (EFTPS), or by using the IRS’ Direct Pay option.
There are incidences in which individuals may receive a financial “windfall” and will spend the proceeds without setting aside some of the proceeds to pay estimated taxes. For example, during 2021 the stock market had a very good year. Stock and stock mutual fund investors were the recipients of dividends, short and long-term capital gain income. This taxable income was paid throughout 2021. There were unfortunately many investors during 2021 who did not give much thought to paying estimated taxes throughout 2021, resulting in a huge tax balance due with the 2021 federal and income taxes due May 17, 2022. An IRS “under-withholding” penalty may have been imposed if the balance due on 2021 federal income tax returns exceeded $1,000.
Ignoring one’s estimated tax responsibilities is generally not a wise tax move. In fact, if one owes more than $1,000 at the tax filing deadline (this year, April 18, 2023), the individual could owe added penalties and interest to the IRS, a result of “tax under-withholding”.
Determining Estimated Payments for 2023
For individuals who believe they may need to pay federal estimated taxes during 2023, the following are the steps to follow in determining how much to pay in federal estimated tax payments. This procedure works even if an individual expects to owe substantially more in taxes during 2023 compared to what they owed during 2022. This is because the IRS considers estimated taxpayers compliant provided they pay either 90 percent of their current year (in this case, 2023) tax bill or a “safe harbor” payment based on either a 100 percent or 110 percent of the tax owed the previous year (in this case, 2022).
- Step 1. Look at one’s 2022 Form 1040, line 24 which is the “total tax” liability for 2022. For example, suppose the “total tax” liability for 2022 is $21,500.
- Step 2. Subtract from the amount in Step 1 the amount one expects to have withheld in federal income taxes from wages, pensions, the TSP, IRAs, etc. during 2023. For example, suppose that amount is $18,500.
- Step 3. Subtract the amount in Step 2 from the amount in Step 1. That gives the individual the amount to be made up through estimated tax payments. Divided the result by 4 and that is the amount that the individual pays to the IRS each quarter. In this example, $21,500 less $18,500 is $3,000; $3,000/4 or $750 is therefore the amount of the estimated tax payment each quarter throughout 2023.
“Safe harbor” refers to a regulation that eliminates an individual’s liability as long as the individual acted in good faith. In the case of income taxes, it is an amount that protects the individual from IRS penalties for income tax underpayment.
For higher income individuals – individuals with previous year’s adjusted gross income (AGI) of more than $150,000 for married couples filing jointly and single individuals, or $75,000 for married individuals filing separately, the “safe harbor” percentage is increased to 110 percent of the previous year’s total tax liability.
Finally, employees can avoid paying estimated tax payments by filling out and submitting an updated W-4 withholding form to their payroll office in order to request additional withholding. CSRS and FERS annuitants can request from OPM Federal and state income tax withholding from their annuities. Social Security recipients can request Federal income tax withholding from their Social Security benefits. However, with 25 percent of calendar year 2023 having passed, some employees and annuitants may have to increase the amount of withholding by an additional 25 percent through the end of 2023.
Edward A. Zurndorfer is a Certified Financial Planner, Chartered Life Underwriter, Chartered Financial Consultant, Chartered Federal Employee Benefits Consultant, Certified Employees Benefits Specialist and IRS Enrolled Agent in Silver Spring, MD. Tax planning, Federal employee benefits, retirement and insurance consulting services offered through EZ Accounting and Financial Services, and EZ Federal Benefits Seminars, located at 833 Bromley Street - Suite A, Silver Spring, MD 20902-3019 and telephone number 301-681-1652. Raymond James is not affiliated with and does not endorse the opinions or services of Edward A. Zurndorfer or EZ Accounting and Financial Services. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. While the employees of Serving Those Who Serve are familiar with the tax provisions of the issues presented herein, as Financial Advisors of RJFS, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional.