How do you estimate taxes?

[DeborahB]

I am retiring this summer so I have half a year's salary, then money from IRAs and investments in various ways, plus a lump sum payout of my unused vacation. I have H&R Block At Home for 2009.

What I'm wondering is how to easily calculate my estimated payments? Or is there NO easy way? In addition I'm converting some IRA investments to ROTH IRA so I need to pay tax either in 2010 or 1/2 in 2011 and 2012...

I'd like to know how other people are doing it.

Thanks!

[audreyh1]

This year I did it the easy way. I took the 2009 taxes owed, divided them by four and am paying that each quarter.

This is the easiest way. But if you think your taxes due in 2010 will be significantly lower than last years taxes due, this will cause you to overpay. Still, no worries about penalties.

Otherwise - it's can be very complex and require some good spreadsheet skills. I've written extensively on this in past posts because most years I do the annualized income method because my income is very unpredictable, changes so much year to year, and also is usually lumped in Q4.

I'll try to find my "book". Here it is: http://www.early-retirement.org/foru...9-a-43407.html

Audrey

[Martha]

I used Audrey's strategy until this coming year where I expect my taxes to be much lower than 2009.

Here is a good discussion on figuring them out: TurboTax® - Estimated Taxes: How to Determine What to Pay and When

I always have guessed a bit high as my income has slowly declined and thus got a refund until this year, where I am writing $15,000 worth of checks tomorrow for 2009 taxes. But I escape any penalty because I am paying timely and my estimates were at least as high as the prior year's tax liability.

[audreyh1]

Martha - you might want to read my "book" too!

Turbo-tax doesn't help with the Annualized Income method. It might help for estimating next year's taxes if you really already know what your income will be. But I do not know ahead, and so have to figure out my annualized income year-to-date every tax quarter. And Turbo-tax simply doesn't do AI calculations (except in a limited way for calculating penalties in you underpaid them - i.e. Form 2210).

Audrey

[DeborahB]

I'm not planning to pay estimated taxes until the 3rd quarter since I have no definite retirement date (probably mid-July but I might NOT retire, oh LOL on that one).

I'm hoping that will be sufficient. By then maybe I'll have more info. Does anyone know if I'm going to get screwed for this? I'm pretty sure I'm retiring; I may or may not pay the 2010 ROTH conversion tax in 2010; SO many unknowns it seems insane to pay estimated taxes until Sept. (or whenever that payment is due, I think Sept.)

Am I in trouble yet?

Thanks - I did look through the links but my situation is unusual - so what's new...? LOL!

[metabasalt]

I can see, sadly, that I'll soon be paying very close attention to this! Just got a small taste of it when filling out forms for starting my pension. Oddly enough I recently bought a book from Nolo on Taxes and Retirement. I really like Nolo. But i couldn't find a single reference to estimated taxes in it. Seems mighty odd for a book on retirement and taxes!

[audreyh1]

Quote:

Originally Posted by thinker25 I'm not planning to pay estimated taxes until the 3rd quarter since I have no definite retirement date (probably mid-July but I might NOT retire, oh LOL on that one). I'm hoping that will be sufficient. By then maybe I'll have more info. Does anyone know if I'm going to get screwed for this? I'm pretty sure I'm retiring; I may or may not pay the 2010 ROTH conversion tax in 2010; SO many unknowns it seems insane to pay estimated taxes until Sept. (or whenever that payment is due, I think Sept.) Am I in trouble yet? Thanks - I did look through the links but my situation is unusual - so what's new...? LOL!

Your situation is not unusual. Just not that much advice available.

No, you are not necessarily in trouble yet. You will have taxes withheld from your first half year income, and these will probably assume you are getting a salary for the full year, so that probably puts you in pretty good stead.

HOWEVER, if you end up taking steps the increase your income ABOVE what a full year salary would have been, then you could get in trouble.

UNLESS you have at least paid the prior year's taxes* and done so on schedule. In that case you would be "safe" to matter how much more you made. It's called the "safe harbor".

[* If your household AGI exceeded $150K in the prior year, then you have to pay at least 110% of the prior year's taxes.]

If your taxes in the current year are lower than prior year, then you have to pay at least 90% of what you owe for the current year and done that at the appropriate time intervals. But taxes aren't owed until you actually get the income, so that's why some of us end up reverting to the Annualized Income AI method, because that is the only way to handle things with unpredictable incomes.

If this sounds convoluted - it is!

Audrey

[audreyh1]

Quote:

Originally Posted by metabasalt I can see, sadly, that I'll soon be paying very close attention to this! Just got a small taste of it when filling out forms for starting my pension. Oddly enough I recently bought a book from Nolo on Taxes and Retirement. I really like Nolo. But i couldn't find a single reference to estimated taxes in it. Seems mighty odd for a book on retirement and taxes!

Well - pensions are pretty easy because the income is predictable and paid out evenly. And I suspect the pension company will do the withholding for you, so it might not be much different than a salary tax-wise (except no FICA).

Issues arise when you have enough investment income or capital gains in addition to your pension to increase your tax liability such that you underpay via withholding.

Audrey

P.S. Geologist?

[Gotadimple]

Quote:

Originally Posted by thinker25 I'm not planning to pay estimated taxes until the 3rd quarter since I have no definite retirement date (probably mid-July but I might NOT retire, oh LOL on that one). I'm hoping that will be sufficient. By then maybe I'll have more info. Does anyone know if I'm going to get screwed for this? I'm pretty sure I'm retiring; I may or may not pay the 2010 ROTH conversion tax in 2010; SO many unknowns it seems insane to pay estimated taxes until Sept. (or whenever that payment is due, I think Sept.) Am I in trouble yet? Thanks - I did look through the links but my situation is unusual - so what's new...? LOL!

Thinker,
You really need to pencil this out. Your question is on estimated taxes, but you have been paying in taxes with your salary, and if your pension will start up in July, you can continue to pay in taxes through your pension.

If you decide to do withholding using your pension, then the question becomes how much additional income will you have over and above the tax due on both salary and pension. You can use a tax prep program to tell you how much that is, and then determine if you need to make an estimated tax payment or payments.

Last year was my first full year in retirement -- but -- I got a small bonus payment due from the year prior on which tax was withheld, I get a small pension on which tax is withheld, AND I did a partial IRA to Roth conversion. So, I used the annualized income method that Audrey describes because my taxes were significantly lower than the year before.

If you have reasonably good Excel skills, and some time, you can set up the calculations to figure out the estimated taxes due in each quarter based on your income and expenses in each quarter.

Once set up, you'll need to track and record both income and expenses to have the spreadsheet determine the tax payment. Last year, I found I only needed to make two estimated payments, based on the timing of income and expenses in each quarter.

I wouldn't expect you would use this method this year, but you know what income you have coming in and its timing.

-- Rita

P.S. This year I'll continue a partial Roth conversion, and having estimated the income, I've set up four quarterly payments through EFTPS. Less fuss, less muss!

[W2R]

Since 2010 will be my first full year as a retiree, I can't really use my results from last year's estimated taxes to estimate this year's.

So, I did it by filling out the one page worksheet provided for this purpose by the IRS, on p. 7 of this publication:

http://www.irs.gov/pub/irs-pdf/f1040es.pdf

It doesn't take too long. I found a similar worksheet for estimated Louisiana state income tax for 2010. I plan to pay the same for each of the four quarters, so I may be overpaying slightly on the first three quarters due to end of the year dividends and LTCG in my portfolio. Maybe I'll fine tune it a bit more next year.

[audreyh1]

That's fine. And it works well if you already know what your income will be from all income sources for the entire year.

That IRS publication linked is an important reference for folks doing estimated taxes. It's not too long.

Audrey

[W2R]

Quote:

Originally Posted by audreyh1 That's fine. And it works well if you already know what your income will be from all income sources for the entire year. That IRS publication linked is an important reference for folks doing estimated taxes. It's not too long. Audrey

Luckily it worked pretty well for me last year, even though I didn't really know what my dividends and LTCG would be for 2009. I used historical values to estimate what I might get, based my estimated taxes on that, and this resulted in a refund of $1748. That's not exact, but "good enough for government work", as they say.

This year I have a bigger portfolio, and instead of my salary I have taxable withdrawals from the TSP, pension, and other complexities that I didn't have last year, so I am less sure but I think it will be OK. Next year I can base my estimated income and taxes on this year's income and taxes since I do not expect any big changes.

[DeborahB]

Quote:

Originally Posted by Gotadimple Thinker, You really need to pencil this out. Your question is on estimated taxes, but you have been paying in taxes with your salary, and if your pension will start up in July, you can continue to pay in taxes through your pension. If you decide to do withholding using your pension, then the question becomes how much additional income will you have over and above the tax due on both salary and pension. You can use a tax prep program to tell you how much that is, and then determine if you need to make an estimated tax payment or payments. Last year was my first full year in retirement -- but -- I got a small bonus payment due from the year prior on which tax was withheld, I get a small pension on which tax is withheld, AND I did a partial IRA to Roth conversion. So, I used the annualized income method that Audrey describes because my taxes were significantly lower than the year before. If you have reasonably good Excel skills, and some time, you can set up the calculations to figure out the estimated taxes due in each quarter based on your income and expenses in each quarter. Once set up, you'll need to track and record both income and expenses to have the spreadsheet determine the tax payment. Last year, I found I only needed to make two estimated payments, based on the timing of income and expenses in each quarter. I wouldn't expect you would use this method this year, but you know what income you have coming in and its timing. -- Rita P.S. This year I'll continue a partial Roth conversion, and having estimated the income, I've set up four quarterly payments through EFTPS. Less fuss, less muss!

I have been trying spreadsheets, tax program etc. and getting nowhere.

Unfortunately - it is more complicated than that. I am maxing out my 401K contribution ($22K) in the first 6 months of 2010 so I have very little salary and consequently almost no taxes being withheld.

There is no pension to speak of. I will get a lump sum (less than $40K) that I can move to a self-directed IRA (in lieue of annuitizing it). It's not taxable until I take it out of the IRA. I will get my unused vacation payout - I believe that is taxable but they'll probably withhold tax from it.

Then there's the $40K in Roth conversion... to pay tax in 2010 or over 2 years possibly at a higher % in 2011 and 2012?

I have very good Excel skills - time is a litte less free because I'm still working! - and have HRBlockAtHome for 2009 to play with. And an MBA (a long time ago). Good math skills etc.

After this year, it will be simpler. This year, aaarrrggghhhhhh! But I assume if I can't know how much taxable money I will have to use, I can't estimate taxes at this point. I could take money from various sources - some are IRAs, some are ROTH IRAs, some are taxable accounts.

Am I supposed to guess that I'll need to pay more taxes and send money tomorrow?

This is nuts!

Thanks for all the help.

[W2R]

Quote:

Originally Posted by Martha I always have guessed a bit high as my income has slowly declined and thus got a refund until this year, where I am writing $15,000 worth of checks tomorrow for 2009 taxes.

OOF! Even with no penalty, that has GOT to hurt. Ow. My sympathies.

[Martha]

Quote:

Originally Posted by audreyh1 Martha - you might want to read my "book" too! Turbo-tax doesn't help with the Annualized Income method. It might help for estimating next year's taxes if you really already know what your income will be. But I do not know ahead, and so have to figure out my annualized income year-to-date every tax quarter. And Turbo-tax simply doesn't do AI calculations (except in a limited way for calculating penalties in you underpaid them - i.e. Form 2210). Audrey

I'm not really saying to use Turbo Tax, as I do not use it myself. The point was to give a link that explains what to do and how to avoid any penalties, which is the real issue. Who cares if you didn't pay enough provided you don't have to pay a penalty.

[audreyh1]

Quote:

Originally Posted by thinker25 Am I supposed to guess that I'll need to pay more taxes and send money tomorrow? This is nuts! Thanks for all the help.

No - there is no need to pay extra taxes ahead of time - that is when I revert to the annualized income method and use my spreadsheets.

At end of Q1 - figure out what was your income paid through March 31, 2010. Should be on your latest pay stub. Subtract your 401K contributions*.

Multiply it by 4 - this is your annualized AGI*. Figure out the taxes owed on that income. Subtract the standard deduction, standard exemptions, and then use the tax tables (this assumes no other type income like cap gains or qualified dividends).

Then by April 15th, you must pay 22.5% of that annualized tax number.

Find out what federal income taxes have been withheld through March 31, 2010. Should be on your latest pay stub. Did they meet that tax due number (the 22.5%)? If so, you are safe for Q1.

Otherwise, you need to pay estimated taxes to make up the difference.

Repeat each subsequent quarter - but the multiplier for the annualized income and the % taxes due change for each quarter.

Audrey

* P.S. if there is some annual limit on 401K contributions, then you might want to make sure you don't deduct more than is allowed even with the 4x annualized income multiplier.

[audreyh1]

Quote:

Originally Posted by Martha I'm not really saying to use Turbo Tax, as I do not use it myself. The point was to give a link that explains what to do and how to avoid any penalties, which is the real issue. Who cares if you didn't pay enough provided you don't have to pay a penalty.

The thing is - that link only helps if

a) you are willing to go ahead and pay 100% of your 2009 taxes in 4 equal payments even if that is way more than you might owe for the year

OR

b) if by April 15 you already are very sure what your income will be for the entire year and with confidence can compute 90% of it and divide into 4 equal payments.

That does NOT cover all cases, and it doesn't even mention the Annualized Income (AI) method which has to be used if you can't estimate b) and you are unwilling to pay a) because you know it will be way higher than needed.

Audrey

[DeborahB]

Quote:

Originally Posted by audreyh1 No - there is no need to pay extra taxes ahead of time - that is when I revert to the annualized income method and use my spreadsheets. At end of Q1 - figure out what was your income paid through March 31, 2010. Should be on your latest pay stub. Subtract your 401K contributions*. Multiply it by 4 - this is your annualized AGI*. Figure out the taxes owed on that income. Subtract the standard deduction, standard exemptions, and then use the tax tables (this assumes no other type income like cap gains or qualified dividends). Then by April 15th, you must pay 22.5% of that annualized tax number. Find out what federal income taxes have been withheld through March 31, 2010. Should be on your latest pay stub. Did they meet that tax due number (the 22.5%)? If so, you are safe for Q1. Otherwise, you need to pay estimated taxes to make up the difference. Repeat each subsequent quarter - but the multiplier for the annualized income and the % taxes due change for each quarter. Audrey * P.S. if there is some annual limit on 401K contributions, then you might want to make sure you don't deduct more than is allowed even with the 4x annualized income multiplier.

I may just have to pay what I owed in 2009 and I think if I've paid the same I have no penalties.... I think. Okay I'll go check the IRS site, too.

All other help WELCOME! No income from work after July, I think.

[Animorph]

Your estimated taxes must be paid evenly and each quarter in order to be treated the same a withheld taxes. In that case, the timing of the income and withholding/estimated taxes is not a concern. If you pay starting in the third quarter, you may have to calculate your taxes for each quarter of the year. I really didn't like that the one year I had to do it to avoid a penalty. Once is enough! So, if you can, pay the 100% or 110% of last year's taxes or 90% of this years taxes using withholding and equal estimated tax payments for all quarters. If that doesn't work, then you can fall back to the quarterly tax calculations.

[Martha]

Quote:

Originally Posted by audreyh1 The thing is - that link only helps if a) you are willing to go ahead and pay 100% of your 2009 taxes in 4 equal payments even if that is way more than you might owe for the year OR b) if by April 15 you already are very sure what your income will be for the entire year and with confidence can compute 90% of it and divide into 4 equal payments. That does NOT cover all cases, and it doesn't even mention the Annualized Income (AI) method which has to be used if you can't estimate b) and you are unwilling to pay a) because you know it will be way higher than needed. Audrey

I see what you are getting at Audrey. I would use that method in years where I expect that I need to pay substantially less in taxes than I did the prior year so I don't want to just divide the prior year's liability by four. Next year I expect a relatively low income year, so I don't want to pay as much as I paid in this year, especially for state taxes where I had an unusual year. So I am guessing my income and paying estimates based on my educated guess. It probably will work out fine. But if I have a big transaction I'll run the numbers to annualize the sale and see if I should up the estimates. I'll need to do this every quarter or risk a penalty.

For the OP, here is a link that explains the method Audrey is talking about: http://www.irs.gov/publications/p505/index.html
Annualized Income Installment Method