Figuring out how to withhold the proper amount of quarterly taxes

[acb550]

As my profile says, I am the spouse (of a physician).  I do all my family finances... investments, retirement accounts, taxes, etc.  My wife became a partner midyear and went from salary to production.  She also received dividends and has one more year of a sign on bonus.  This last year, even with the addition of another child and no change in exemptions, we underpaid by about 8K.  Fortunately we paid over 110% of last year's taxes and thus are safe from penalty thanks to the 110% safe harbor rule.  Next year we won't have the safe harbor.

We have one more year of sign on bonus and we will get dividends with no withholding of taxes.  IRS rules divides income over the 4 quarters (it doesn't matter if all the money is earned in one or two quarters, you are expected to pay at least 25% per quarter or subject to penalties, even if they owe you a refund!) so we need to make sure enough is taken out.  However, my wife gets paid on a rolling quarterly average to get a percentage of the revenues.  The percentage holds for 3 months (this quarter is 8.9%), but the monthly income varies due to what the clinic takes in.  I am thinking of not changing the w-4 to 4 exemptions and leaving it at 3.  I could pay some money into quarterly estimates, but the payroll company also take out money and makes adjustments each month.

What would you all do to make sure that enough taxes are withheld so not to be penalized by the IRS, but not overpay so that we don't get a large refund and we max out our money to be able to invest?

 

Thanks for your help

[Zaphod]

First the IRS allows you to annualize your earnings and this will reduce your penalty if any, also you only have to pay 90% of the prior year to avoid penalty. Also, the penalty is just not that severe. I usually run my taxes in muni funds and have the penalty accrued in the first quarter of dividends, the rest is profit.

Its pretty simple to avoid making a large error however. Just take your effective tax rate overall (if salary, divs, etc..) will be similar and apply it at a flat rate to your income as you receive it. Also, if you didnt have to pay quarterly taxes the year prior the IRS also will not assess a penalty during your first year, meaning you dont have to pay at all and they wont charge you...well, you'll rather receive a refund for it.

[Jenn]

I file the 2210 with schedule AI (annualized income) when my (year end usually) mutual fund dividends and cap gains are higher than expected and so we ought to owe an underpayment penalty. This is the exception/ way to get around your comment "IRS rules divides income over the 4 quarters".

The other thing I do is just make a random estimated payment when we have an unpredicted untaxed or undertaxed income- this year I did a Roth conversion and same time I did it I paid 25% or so of the likely capital gain from the conversion. (This might get tricky if you are already doing 4 a year- why not delay or prepay them when the unexpected or uncertain amount payments come in? So long as you make the payment prior to that quarter's deadline I think the sched AI has you covered- but look at 2210 sched AI for the dates.)

And the last confounding factor is that the last estimated payment is due Jan 15, a month or more before I have all the tax forms back so I can't just do the taxes and be certain whether we need a 4th estimated payment or if we've paid enough already.

Just now I realized that due date, did a quick quarterly payment on the excess dividends since a rough 1040 run showed us underpaid, then (repenting at leisure) got a few tax forms and when I did the qualified dividend worksheet tax calculation saw I had just made an estimated payment about the size of the refund I will now be due. D'OH! And can't get it back until after I know all my qualified dividend and foreign tax paid figures from tax forms due a month from now (without doing amended returns). So take my advice with a tablespoonful of salt!

By the way https://www.irs.gov/pub/irs-pdf/f2210.pdf p. 4

[acb550]

Zaphod, the 90% doesn't work for us, at least this year because of the dividends and signing bonus.  We don't know what the dividends are any given quarter either.  It is also 110% of the prior year for high earners, which I assume we all fall under.  But I didn't know about the annualized method, thank you.

 

Jenn, thank you for saying what said form is.  And I missed Jan 15 this year too.  Our state is Feb 1, so I thought we'd be okay until then.  Then on the 19th I found out the 15th.  I moved it over to the 20th, but we would have been dinged. Then I found out we were safe because of the 110% safe harbor (which we won't have next year).  I know what you are going through!

 

 

[Zaphod]

Why couldnt you then just pay the 100% of last years taxes then, plus any obvious increase above that? I would pour over the IRS site on withholding, penalties, and really the easiest would be to play with turbotax or your favorite software to run several different scenarios based on the spectrum of min/max probabilities and see what youre most comfortable with. Then have some cash set aside just in case youre wrong. On some of the forms you've been recommended that have calculators to find out where you'd be for penalties, etc...

I think you'll be relieved after you go through the steps and read more about it, and let turbotax estimate the best and worst case scenarios including your penalty if any. Again, I dont even pay mine, I just pay at the end of the year plus any penalty. This year that penalty is less than 1% of my taxes, which I'll have more than made up for with the use of the money over the year. I think of it more as a float, hard to find money that cheap anywhere.

[jfoxcpacfp]

@adam_bantell - my philosophy is similar to @Zaphod's. I don't mind having to pay penalties as long as I have the money set aside. I'll pay in during the year through payroll withholdings, but it's just not worth my time to chase ups and downs of income and deductions to try to get to breakeven. If we get a refund, it just gets applied to the following year, anyway.

A couple of other points:

1. The fact that you were a few days late on the final estimate will only minimally affect you. The IRS doesn't treat that as a missed payment, just a late payment.


2. If you are still concerned about missing an estimate and know what you need to pay in by the end of the year, the IRS treats taxes withheld as spread evenly throughout the year. I think this may be where you were confused when you posted: "IRS rules divides income over the 4 quarters..." We use this to the advantage of clients who own their business as an s-corp and don't make quarterly estimates. All you have to do is withhold enough from W2 pay by 12/31 and you are not treated as having missed any estimated payments. Of course, if you are not an owner where you are employed, you'll have to work through your employer's payroll dept. to increase withholdings for checks in December, but it works very nicely for your cash flow when handled strategically.

[PNWskindoc]

Hi all,

Would appreciate your help on this:

I'm in the last year of my residency and had some 1099 and W2 moonlighting income from last year. I already filed my taxes for 2015 and actually got some money back. I will also have the same W2 and 1099 moonlighting income for this year but I don't know how much I should be paying in quarterly taxes. If someone could assist me in this, I would really appreciate it. Here's a rough break down of last year's taxes:

$60k in residency income

$10k in 1099 moonlighting income (I was able to write off ~$6500 worth of deductions)

$33k in w2 moonlighting income

For 2016, I'll probably be making a similar amount in moonlighting money but obviously more in my regular salary since I will be a first year attending. Thanks everyone

[jfoxcpacfp]

It depends on your goal. The general rule for you will be that you must pay in at least enough taxes during the year to equal your prior year's liability. (It will be more complicated when you are making a lot more, but I won't get into that here).

• If your goal is to not owe taxes next April, I don't have enough information to calculate (and neither do you, since you haven't signed your contract yet). Once you have that information, it is possible to calculate if you are DIY or your CPA can do so for you.


• If your goal is to avoid paying penalties on underpayment of estimated taxes, you will almost certainly have enough withheld from your attending salary to equal or exceed your 2015 tax liability. You'll either overwithhold (which, in my experience, tends to be the rule for doctors) or you'll pay the balance due next April.

You have so little income that you are not withholding taxes on already, this is really a non-issue, but I hope you understand how the rules work a little better now!

[PNWskindoc]

Thanks Johanna for clearing that up. So if I understand you correctly, I do not have to be setting aside any extra $ to pay for quarterly taxes because I will most likely be withholding enough from my attending salary? My goal is to not owe any taxes come next April. I'll be starting work in the 2nd week of August and have a base salary of $325,000 with a % collection after I generate a certain amount. Realistically, I should be able to earn ~$400,000 in a full year but obviously pro-rated because I'll be working only 5 months. If you can provide some resources so I can calculate this, that'd be great. Thanks!

[jfoxcpacfp]

See if this one will take care of it for you. You'll have to compare withholding to the projected tax liability to find out if you're under or over.

[childay]

@  PNWskindoc

You will be fine, you will amost certainly withold enough for the safe-harbor rule once you start your attending job.  Just do the calculation when you do your W-4 when you start the new job, estimating how much you will withold over the 5 months.