What is the best way to pay estimated Federal Taxes in Retirement?

[AzDreamer]

So, for those receiving a modest pension, we can increase our federal withholding percentage at the end of the year to pay for the federal taxes due for that year?

Last year around Nov 15 I tried to increase my pension withholding for December but the change didn't happen as expected. Maybe there is some lag time before these changes takes effect.

 

[ShokWaveRider]

No, withholding is always treated as if it were taken equally throughout the year, regardless of when it was actually taken.

This is because if you look at any tax form that shows withholding (other than a W-2G for gambling winnings) there are no dates on it, so the IRS has no way to know when you paid. Most withholding deposits are sent to the IRS as a lump sum without any individual info. If they receive $X from a broker in April and $Y in December, they have no way to know which individuals it was for. The only thing that matters is the total withholding on all the 1099s the broker issues for that year has to equal $X+$Y.

Does this mean that if we pay all our estimated taxes in say the last quarter of the year in one go, it is OK and there will not be any penalties?

 

[statsman]

Does this mean that if we pay all our estimated taxes in say the last quarter of the year in one go, it is OK and there will not be any penalties?

No. Estimated taxes are to be paid throughout the year. Withholding can be done at any time.

 

[cathy63]

Is it easy to pay with an IRS.gov account? Are there fees? Do you need an IDme account to do this?

You can make a payment on the IRS website using Direct Pay without any account at all. There are fees if you use a credit card. You will have to provide some numbers from a prior tax return for verification. You can schedule payments up to a year in advance.

You can also create an irs.gov account, in which case you don't need to have a prior tax return handy, but you do need an ID.me account to authenticate.

A third option is to use EFTPS. For that you need to register an EFTPS account and you have a choice of using Login.gov or ID.me as a second authentication.

 

[Livefree]

I have social security take out 12% Federal Taxes, and use eftps for federal and our state has it's own site to pay for what's left via quarterly taxes.

 

[cathy63]

Does this mean that if we pay all our estimated taxes in say the last quarter of the year in one go, it is OK and there will not be any penalties?

No, withholding is not the same as estimated taxes. The IRS does know when you paid your estimated taxes and you are subject to penalties if you pay them late. However, if your income is lumpy and you receive all your CD interest in the 4th quarter and pay your estimates by Jan 15th, then you can use Form 2210 Schedule AI to calculate your income on an annualized basis and mitigate the penalty. That's like doing 4 separate tax returns, and you really have to have good records of when you received the income, so I think it's easier to pay 4 quarterly estimates and just be done with it.

 

[GalaxyBoy]

OP didn’t mention IRAs so I assume they’re not withdrawing from one. I’ll throw in my approach anyway hoping it might help others.

DW has a small pension and is taking SS, so we withhold from them. SS only allows withholding for federal, so we withhold state from her pension. I have an inherited IRA that started before the rules changed, so I use most, if not all, of that annual withdrawal to make up any shortfall usually resulting from Roth conversions. As others stated, I shoot for the safe harbor amount. Bear in mind that 1099 withholding is treated as if it were taken throughout the year.

 

[Gotadimple]

This year we will need to think about paying estimated quarterly taxes. I was wondering how to do it. Up until now, we have not known exactly what our taxable income will be. This year we may be able to make a good estimate. Almost 100% of our taxable income will be from SS and CD interest. The IRS says tax is due when payments are made.

There are many ways to do this as you've seen. But you're retired now. So, you can go for simple, and then there's hard.

You already know pretty much what income will be subject taxes.

SIMPLE
Take the known income run it through a tax calculator, then divide the calculated tax by 4. Set up an account on EFTPS.com (this takes about 2 weeks) and link it to your checking or savings account. Schedule your payments to comply with the IRS payment schedule. I set up my quarterly payments after I do my taxes for the year. Set it and forget it. You will get an email shortly before Treasury withdraws your quarterly payment.

You can also adjust the taxes taken out of Social Security to reduce the amount of quarterly payments to IRS if you prefer a steadier stream going to the IRS. Give Social Security time to make the adjustment. Login to your account on Social Security.

HARD
If you have income that is paid unevenly throughout the year and you don't want the IRS to have your taxes before you have your income, you can use form 2210 to figure out how much you owe each quarter and then set up the payment on EFTPS. Warning: this form is bone-crushing, tooth-gnashing, and very painful. Only makes sense if your income varies w i d e l y and you generally can't forecast what it can be.

Go for simple.

 

[NoiseBoy]

Most people find paying from withholding most convenient.

I'm still trying to adjust my withholdings to meet my future income tax liabilities. One con to finally having cash investments that pay a decent rate of return is that I keep underestimating what my interest income is going to be. This is the one area of retirement that I was completely unprepared for. While working, my interest, dividend, and cap gains income was pretty much noise in the context of my salary. But I've paid an underpayment penalty for my first two years of retirement. Ugh. I'm going to look into the lazy IRA withdrawal strategy too.

 

[Teacher Terry]

I have taxes withheld from my pension. A year ago I started consulting and have no clue how much money I will make as it depends on how many clients get referred to me. So I pay taxes on that quarterly to avoid penalties. My son does my taxes and also figures out how much I should pay.

 

[Dtail]

Yes, the lazy person's tactic: In December take an IRA withdrawal at least equal to the safe harbor amount (100% or 110% of previous year's taxes) and designate it as 100% Federal withholding. Done. No estimating or tracking anything. Ever.

I learn this trick here on the forum and have been successfully using it for several years. One wrinkle for me is that Schwab will not permit 100% withholding, only 99%. So my withdrawal amount has to be 101% of the safe harbor. This works for my state tax payments as well, though I can't say for sure that it works in all states.

Yup same here for my mom's RMD withdrawal.

 

[ShokWaveRider]

Yes, the lazy person's tactic: In December take an IRA withdrawal at least equal to the safe harbor amount (100% or 110% of previous year's taxes) and designate it as 100% Federal withholding. Done. No estimating or tracking anything. Ever.

I learn this trick here on the forum and have been successfully using it for several years.

So, this is the work around, this is classified as a withholding not an estimated payment, so a one-time distribution with 100% withheld should work and eliminate the need for quarterly estimated payments. No matter when in the tax year the distribution and withholding take place. Even if the amount also covers taxable CD income distributed monthly??

 

[erkevin]

So, this is the work around, this is classified as a withholding not an estimated payment, so a one-time distribution with 100% withheld should work and eliminate the need for quarterly estimated payments. No matter when in the tax year the distribution and withholding take place. Even if the amount also covers taxable CD income distributed monthly??

Some people may have gotten away with this (power to you!), but it is not what the IRS says. Here is a summary from Turbo Tax:

Myth 1: You can pay your taxes in a lump sum at the end of the year
One of the more serious misconceptions taxpayers often have is that they can just pay their taxes in one lump sum at the end of the year. It's a mistake to think the IRS is OK with an end-of-year payment.

If you owe more than $1,000, the IRS wants you to pay your tax throughout the year.
Any missed payment will typically result in penalties and interest.
Waiting until the end of the year to file and pay taxes may lead to other financial issues if you fail to reserve enough funds to satisfy your tax debt.
We cover how to pay quarterly estimated taxes here.

Myth 2: Missing a estimated quarterly taxes payment deadline is fine as long as you pay on the next deadline
If you have to make estimated tax payments, following the schedule is important.

Missing quarterly deadlines, even by one day, can mean accruing penalties and interest.
If you miss a payment deadline, your best bet is to send your payment as soon as you can.
You can also appeal IRS penalties. The IRS would rather collect tax payments than collect penalty payments, so penalties you incur might be forgiven.

 

[Dtail]

So, this is the work around, this is classified as a withholding not an estimated payment, so a one-time distribution with 100% withheld should work and eliminate the need for quarterly estimated payments. No matter when in the tax year the distribution and withholding take place. Even if the amount also covers taxable CD income distributed monthly??

Yes no matter when you take the withholding and yes it can cover the CD interest too.
A nice little quirk in the tax law which actually can benefit many retired folks with no natural withholding type income.

 

[Dtail]

Some people may have gotten away with this (power to you!), but it is not what the IRS says. Here is a summary from Turbo Tax:

Myth 1: You can pay your taxes in a lump sum at the end of the year
One of the more serious misconceptions taxpayers often have is that they can just pay their taxes in one lump sum at the end of the year. It's a mistake to think the IRS is OK with an end-of-year payment.

If you owe more than $1,000, the IRS wants you to pay your tax throughout the year.
Any missed payment will typically result in penalties and interest.
Waiting until the end of the year to file and pay taxes may lead to other financial issues if you fail to reserve enough funds to satisfy your tax debt.
We cover how to pay quarterly estimated taxes here.

Myth 2: Missing a estimated quarterly taxes payment deadline is fine as long as you pay on the next deadline
If you have to make estimated tax payments, following the schedule is important.

Missing quarterly deadlines, even by one day, can mean accruing penalties and interest.
If you miss a payment deadline, your best bet is to send your payment as soon as you can.
You can also appeal IRS penalties. The IRS would rather collect tax payments than collect penalty payments, so penalties you incur might be forgiven.

This is true for estimated tax requirements, but is not true for withholding strategies which can effectively replace the estimated tax requirements.

 

[OldShooter]

Some people may have gotten away with this [paying via withholding at the end of the year] (power to you!), but it is not what the IRS says. ...

I'm not sure why people seem to be so steamed up about this. It works. Many people successfully take this approach. No IRS issues or objections have been reported. See also @cathy63's posts.

To @Gotadimple's post #33 I would add:

REALLY SIMPLE

Ignore your income, make no calculations of taxes due. Make no estimated tax payments. Instead pay your safe harbor amount via withholding at any point in the year you choose. If you are pessimistic about the market and don't want to earn interest on the float, pay in January. If you are optimistic or do want the interest, pay in December.

 

[statsman]

This is true for estimated tax requirements, but is not true for withholding strategies which can effectively replace the estimated tax requirements.

It does seem this thread keeps mixing up the two concepts.

 

[audreyh1]

As I read the IRS rules, if you owe more than $1000, this strategy could result in penalties and interest.

I don’t think so as withholding any time during the year is treated as evenly paid throughout the year. So as long as you withhold enough, even at year end, to cover prior year taxes safe harbor amount, you are golden.

This is true for estimated tax requirements, but is not true for withholding strategies which can effectively replace the estimated tax requirements.

It does seem this thread keeps mixing up the two concepts.

Using withholding is a common way to cover estimated taxes. It’s just that opportunities to withhold taxes are limited: IRA withdrawals, SS, pension. If you don’t have those scenarios you have to pay estimated taxes directly.

Also tax refunds can be applied to following year estimated taxes on your 1040.

 

[Dtail]

It does seem this thread keeps mixing up the two concepts.

And that's all folks. Plus a little animosity towards the withholding concept.
Can the ACA income management strategy be that far behind?

 

[RetiredAndLovingIt]

TurboTax calculated a $1 penalty for me being a few days late on one of my small estimated payments. That was my first year and I simply forgot to pay it before the due date so now I just set them up on the IRS website after I do my previous years return. I get an e-mail reminder a few days before the IRS will withdraw from my bank. I just give Turbo tax the total amount I want to pay and it prints out vouchers with the dates due for both Federal and State.
I always make sure I pay more than last years tax for safe harbor.

 

[braumeister]

I don’t think so as withholding any time during the year is treated as evenly paid throughout the year. So as long as you withhold enough, even at year end, to cover prior year taxes safe harbor amount, you are golden.

Using withholding is a common way to cover estimated taxes. It’s just that opportunities to withhold taxes are limited: IRA withdrawals, SS, pension. If you don’t have those scenarios you have to pay estimated taxes directly.

Like many here, I've been doing this for years.

Here is an old Bogleheads thread on the topic, and if you look at the last post in the thread, the relevant part of the tax code is cited.

RMDS withholding for entire tax liabilty at year end?

 

[GenXguy]

As I read the IRS rules, if you owe more than $1000, this strategy could result in penalties and interest.

Some people may have gotten away with this (power to you!), but it is not what the IRS says. Here is a summary from Turbo Tax:

Myth 1: You can pay your taxes in a lump sum at the end of the year
One of the more serious misconceptions taxpayers often have is that they can just pay their taxes in one lump sum at the end of the year. It's a mistake to think the IRS is OK with an end-of-year payment.

If you owe more than $1,000, the IRS wants you to pay your tax throughout the year.
Any missed payment will typically result in penalties and interest.
Waiting until the end of the year to file and pay taxes may lead to other financial issues if you fail to reserve enough funds to satisfy your tax debt.
We cover how to pay quarterly estimated taxes here.

This is true for estimated tax requirements, but is not true for withholding strategies which can effectively replace the estimated tax requirements.

I don’t think so as withholding any time during the year is treated as evenly paid throughout the year. So as long as you withhold enough, even at year end, to cover prior year taxes safe harbor amount, you are golden.

But even with estimated quarterly payments, as long as you make the required payments on time, you won't pay any penalties if you still happen to owe over $1000 additional when you file taxes, as long you met the safe harbor with your quarterly payment requirements.

https://www.hrblock.com/tax-center/irs/tax-responsibilities/avoiding-underpayment-tax-penalty/

 

[GalaxyBoy]

OP didn’t mention IRAs so I assume they’re not withdrawing from one. I’ll throw in my approach anyway hoping it might help others.

DW has a small pension and is taking SS, so we withhold from them. SS only allows withholding for federal, so we withhold state from her pension. I have an inherited IRA that started before the rules changed, so I use most, if not all, of that annual withdrawal to make up any shortfall usually resulting from Roth conversions. As others stated, I shoot for the safe harbor amount. Bear in mind that 1099 withholding is treated as if it were taken throughout the year.

I should have said 1099-R.

 

[N02L84ER]

If I didn't have a small pension that I can use federal withholding to pay my estimate of my federal taxes due then I would use the method that Old Shooter describes above, but with a twist.

In December, I would do a Roth conversion for 101% of what I want to pay for estimated taxes and have 99% federal tax withholding. Then I would transfer from my brokerage account to my Roth and amount equal to the federal withholding as a rollover contribution.

The net impact is a Roth conversion for 101%, but with the benefit of effectively making an estimated payment of taxes in December that the IRS considers as done continually throughout the year in assessing any underpayment penalties. Just be careful to adhere to the timing of rollover contributions... perhaps do the first one in early December and do it one day later each subsequent year.

But, if you are subject to RMDs, take the full RMD first. Then pay the taxes with the Roth conversion process.

 

[ShokWaveRider]

Thanks, this has been very informative, I hope other find it so too.