U.S. tax operates as a pay-as-you-go system. Generally, if you work as an employee, you pay taxes through paycheck withholding. But if tax withholding doesn’t apply to you or won’t cover all your tax obligations, you may need to pay estimated taxes quarterly. But what happens if you fail to pay proper estimated taxes, or don’t pay them at all? Unfortunately, you could end up with a penalty for underpayment of estimated tax.
But don’t fret if you have unpaid tax! Let’s dive into what can trigger a penalty, so you can avoid any confusion surrounding underpayment penalties.
For starters, adequately paying quarterly estimated taxes through a taxable year by the dates below will help keep you in the clear from the Internal Revenue Service (IRS). For calendar-year taxpayers (which is most people), the due dates are as follows (unless it’s a weekend or holiday, then the deadline falls on the next weekday):
- April 15
- June 15
- September 15
- January 15
Want to learn more about how you may be able to avoid an underpayment penalty? Check out our estimated tax safe harbor post.
Underpayment of estimated tax
Simply put, underpayment of estimated tax occurs when you don’t pay enough tax when you pay quarterly estimated tax payments. Failure to pay the right amount of estimated tax throughout the year might result in a penalty for underpayment of estimated tax. The IRS does this to promote on-time and accurate estimated tax payments.
What is the penalty for underpayment of estimated taxes?
If you’re questioning, “What is the penalty for underpayment of estimated tax?” it’s not a static percentage or flat dollar amount.
Here’s what will happen and how your late estimated tax penalty will be calculated. You will receive an IRS notice if you underpaid estimated taxes. They determine the tax underpayment penalty by calculating the amount based on the taxes accrued (total tax minus tax credits) on your original tax return or a more recent one you filed.
More specifically, the IRS penalty factors in the total underpayment amount, period when the underpayment was underpaid, and Interest rate for underpayments (This number changes each quarter. View the IRS Interest on Underpayments and Overpayments page for specific numbers.)
Form 2210 (or Form 2220 for corporations) will help you determine the penalty amount. You should figure out the amount of tax you have underpaid. Keep in mind this form contains both a short and regular method for determining your penalty.
To calculate the penalty yourself (other than corporations): Pinpoint the federal short-term rate for the quarter in question and add 3% to that percentage rate
You can let the IRS figure your penalty if you didn’t withhold enough tax by the end of the year. In this case you aren’t required to file Form 2210 (box B, C, or D in Part II doesn’t apply to you).
When the estimated tax penalty doesn’t apply
The good news is the IRS will not assess a penalty for underpayment of estimated tax if certain exceptions apply. You may qualify for an exception to the penalty if you don’t have a liability the prior year, you’re a U.S. citizen or a resident alien the entire year, and your prior tax year covered 12 months.
You may also qualify for the estimated tax safe harbor penalty exception.
You may qualify for a waiver of the penalty if you had reasonable cause for not making the payment, the underpayment was not due to willful neglect, and:
- You experience an unforeseen, uncommon, or noteworthy event, such as a casualty or disaster, or
- You retired at age 62 or older during the prior or current tax year, or
- You became disabled during the prior or current tax year.
If you didn’t pay estimated taxes, can you get a refund?
Good news! It’s possible to have a refund if you didn’t pay estimated taxes. To get a refund, your tax credits and deductions should total more than your income tax liability. In order to make this possible, you’d need to have:
● A combination of deductions and credits that reduce your tax liability to 0
● One or more refundable credits to produce a refund
Refundable credits include:
● Earned Income Credit (EIC)
● Additional Child Tax Credit
● Alternative Minimum Tax (AMT) credit
You’re still subject to self-employment tax if you’re self-employed. Refundable credits may offset self-employment tax as well as income tax.
Get help with estimated taxes and the underpayment penalty
Need hands-on help with estimated taxes or have a penalty, file with a tax pro. If you want to take the do-it-yourself approach, file with H&R Block Online or our tax software. Either way, you can rest assured that we’ll get you the biggest refund possible and file with complete accuracy.
underpayment of estimated tax.
As a tax expert with extensive knowledge and experience in the field, I understand the intricate details of the U.S. tax system and can provide valuable insights into the complexities of estimated taxes and potential penalties. My expertise is grounded in a deep understanding of tax regulations, IRS procedures, and the nuances of tax compliance.
Now, let's delve into the concepts presented in the article about underpayment of estimated tax:
Pay-As-You-Go System:
The U.S. tax system operates on a pay-as-you-go basis. This means that individuals are expected to pay their taxes throughout the year rather than in one lump sum at the end. For employees, taxes are typically withheld from paychecks. However, for those not covered by withholding or facing insufficient withholding, quarterly estimated tax payments may be necessary.
Quarterly Due Dates:
To stay compliant with the IRS, taxpayers making estimated tax payments are required to do so on specific dates throughout the year. For calendar-year taxpayers, these dates are April 15, June 15, September 15, and January 15 of the following year.
Underpayment of Estimated Tax:
Underpayment occurs when taxpayers fail to pay enough tax during quarterly estimated payments. This may result in penalties to encourage timely and accurate tax payments.
Penalty Calculation:
The penalty for underpayment is not a fixed percentage or flat amount. Instead, the IRS calculates it based on the underpayment amount, the period of underpayment, and the interest rate for underpayments. Form 2210 (or Form 2220 for corporations) is used to determine the penalty amount.
Exceptions to Penalties:
Certain situations exempt individuals from underpayment penalties. Exceptions include not having a tax liability in the prior year, being a U.S. citizen or resident alien for the entire year, and having a prior tax year covering 12 months. Additionally, there's an estimated tax safe harbor penalty exception.
Waiver of Penalties:
A waiver of the penalty may be granted if there's a reasonable cause for not making the payment. Events such as unforeseen disasters, retirement at age 62 or older, or becoming disabled could qualify for a waiver.
Refunds Despite Non-Payment:
Surprisingly, it's possible to get a refund even if estimated taxes were not paid. This can occur if tax credits and deductions exceed the income tax liability. Refundable credits, such as Earned Income Credit (EIC) and Additional Child Tax Credit, can contribute to this.
Self-Employment Tax:
Self-employed individuals are still subject to self-employment tax even if estimated taxes are not paid. Refundable credits may offset both self-employment tax and income tax.
Seeking Professional Assistance:
For individuals facing challenges with estimated taxes or potential penalties, seeking assistance from tax professionals, like those at H&R Block, can provide valuable support. Professional advice can help ensure accurate filing and potentially maximize refunds.
In conclusion, understanding the implications of underpayment of estimated taxes, the associated penalties, and the available exceptions is crucial for individuals navigating the U.S. tax system.
