Understanding the penalty for underpayment of estimated tax
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.
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.
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.
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).
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.
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.
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.
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