You don’t have an employer to withhold taxes from each of your paychecks when you're self-employed, but this doesn’t relieve you of the obligation of paying taxes. You must remit taxes on your own throughout the year. Self-employed taxpayers are expected to make quarterly estimated tax payments, paying one-fourth of what they estimate they owe each quarter. They can incur penalties otherwise.
What Are Estimated Tax Payments?
Salaried and hourly employees typically have taxes withheld from each of their paychecks. Their employers then send them to the IRS and to the state of their behalf. But income tax isn’t automatically paid this way if you're self-employed. You’re required to complete and file Schedule SE if you earn $400 or more on your own, even from a side gig. The form calculates your earnings for the year and determines how much you owe in taxes.
But you can’t just wait until April to pay that calculation to Uncle Sam. The IRS expects you to pay taxes throughout the year if you earn above a certain amount. The IRS suggests that if you expect to owe $1,000 or more when you file your taxes for the year, you should divide that amount by four and pay it quarterly throughout the year.
Read More: What are Self-Employed Taxes?
Who Should Pay Estimated Taxes?
You can use the Estimated Tax Calculator on Form 1040-ES to determine whether you should pay estimated taxes. Input your estimated gross income for the year and a ballpark figure for the various deductions you plan to take. The worksheet walks you through calculating the tax you can expect to owe.
Rules for Certain Workers
In addition to owing $1,000 or more, the IRS also expects you to pay estimated taxes if your withholding and refundable credits are either 90 percent of the tax to be shown on your 2021 tax return or 100 percent of the tax shown on your 2020 tax return. This assumes that your 2020 return covered all 12 months of the tax year. You must substitute 66 2/3 percent for the 90 percent rule if you earn income from farming or fishing.
Household workers such as housekeepers, maids, babysitters and gardeners may have to complete Form 1040-ES and pay estimated taxes as well. The IRS requires that Social Security taxes be remitted by your employer on your behalf if they paid you cash wages of more than $2,300 in 2021, but employers aren't required to withhold federal income tax on your behalf so it’s important to keep an eye on this.
How to Pay Quarterly Taxes
Use the Estimated Tax Worksheet to arrive at an estimated tax liability and divide it by four quarterly payments. The worksheet includes payment vouchers that you can complete and mail into the IRS with your check or money order. Make it payable to the United States Treasury and be sure to write the same Social Security number you use when you file your tax return.
You can also pay your estimated taxes online. You can transfer the money directly from your bank account or use a credit card, but using a credit card likely cost you a convenience fee. Go to IRS.gov/payments to pay your quarterly payments online.
When to Pay Estimated Taxes
Estimated taxes come with a due date attached to each payment. These are detailed on Form 1040-ES, but they usually fall on April 15, June 15, Sept. 15, and Jan. 15 of the next tax year.
It's important that you not only make sure that your estimated tax payments arrive before the due date but that you can prove that they did if it’s questioned later.
Penalties for Underpayment
The IRS charges tax penalties for a variety of reasons, including paying your taxes late. The late-payment penalty is 0.5 percent per month of the amount of the unpaid tax you owe, up to a total of 25 percent of what you owe. Filing an extension on your tax return does not relieve you of your obligation to pay the taxes you owe by the initial due date.
Removing Late Payment Penalties
The IRS may let you pay unevenly rather than quarterly if your income ebbs and flows throughout the tax year. IRS Form 2210 helps you calculate uneven payments in accordance with your income levels during various quarters.
You may be able to apply for Penalty Relief if you were unable to meet your estimated tax obligations throughout the year for certain reasons:
- Reasonable cause: The IRS will determine if you used every effort to pay your taxes on time and were still unable to do so.
- Administrative waiver and first-time penalty abatement: You may be able to get a waiver of penalties if this is your first tax return, or if you have a history of three consecutive years of paying on time. You’ll also have to pay, or arrange to pay, the taxes due.
- Statutory exception: You may be eligible for a penalty waiver if your late payment is due to faulty information you received from the IRS.
Contact the IRS to make sure the penalty you’re being charged is accurate.
Overestimating vs. Underestimating
You may be tempted to overpay your estimated taxes during the year just to be safe because you risk not only penalties for underpayment but also a big tax bill in April if you pay in too little. But you’ll have a little padding if you earn more than you anticipated if you overshoot the amount you're likely to owe.
It’s always nice to avoid a hefty tax liability, but keep in mind that you won’t get your overpayment back as a refund until you file your tax return the next year. That’s money you could have put into an interest-bearing account during that timeframe instead. The IRS doesn't pay interest for overpayment of taxes.
Read More: What is the Penalty for Tax Overpayment?
Estimated Taxes for Side Gigs
Some workers earn both employer-provided and self-employed income. The first question will be whether that amount is $400 or more if you earn money from your side gig. You’ll have to determine whether your earnings will require you to pay $1,000 or more in taxes for the tax year if the answer to that question is, "Yes."
But you have another option if you have an employer that's withholding taxes from your earnings. You can shift some of the year's tax burden to those withholdings. Simply have your employer take more out of each paycheck and submit it to the IRS on your behalf rather than relying entirely on estimated taxes. This can offset at least some if not all of the untaxed income you’re making on the side.
Affording Estimated Taxes
Consider setting money aside from each payment you receive from a client or customer. A full 15.3 percent of your earnings will go to the self-employment tax, which covers your Social Security and Medicare taxes. This doesn’t include any federal or state income taxes that you’ll also owe.
Make it a habit to pull a fixed amount out of payments made to you on a regular basis. Financial expert Dave Ramsey recommends setting aside 25 to 30 percent of every dollar you earn. You’ll have it in place waiting for you when it’s time to pay quarterly taxes if you place the money in a special, dedicated account.
And no one says you can only make estimated tax payments quarterly. Many self-employed taxpayers, especially freelancers subject to up-and-down incomes, remit a set percentage of their earnings on a monthly or even weekly basis.
Inability to Pay Estimated Taxes
It’s imperative that you submit each payment on time to the best of your ability, but there may be times when you’re simply unable to do so. Send the money as soon as possible after the deadline if you find yourself in a pinch. This will help minimize any penalties.
Reducing Your Tax Burden
Filing your income tax return as a self-employed professional begins with reducing the amount of your taxable income each year. One way to do this is by taking advantage of every possible business tax deduction that you can claim.
Self-employed taxpayers must file Schedule C, "Profit or Loss From Business," with their tax returns. Schedule C begins with your gross income – all you've earned from your business during the tax year – then it deducts your costs of doing business. You only pay tax on the resulting balance. This is your taxable income.
Some business expenses you can deduct on Schedule C include:
- Commissions and fees
- Business use of your personal vehicle
- Home office expenses
- Depreciation of equipment
- Legal and professional fees
You must calculate the percentage you use your personal items for business if they do crossover duty, such as your car that you drive for both business and personal reasons. You can only claim the business portion of associated expenses.
Read More: 1099 Self-Employment Rules & Deductions
Estimated taxes add another administrative task to a self-employed professional’s to-do list, but you should be able to set it up on your calendar and take care of it routinely once you’ve learned the ropes.
- Social Security Administration: If You Are Self-Employed
- IRS.gov: Estimated Taxes
- IRS.gov: 2020 Form 1040-ES
- IRS.gov: Paying Your Taxes
- IRS.gov: Form 2210
- IRS.gov: Penalty Relief
- Ramsey: Freelance Taxes 101
- IRS: How Much Can I Contribute to My Self-Employed SEP Plan?
- IRS: Frequently Asked Questions / Collection Procedural Questions 3
- IRS: 2021 Schedule C Profit or Loss From Business
- IRS: Publication 505 (2021), Tax Withholding and Estimated Tax
- Social Security Administration: Household Workers
Stephanie Faris has written about finance for entrepreneurs and marketing firms since 2013. She spent nearly a year as a ghostwriter for a credit card processing service and has ghostwritten about finance for numerous marketing firms and entrepreneurs. Her work has appeared on The Motley Fool, MoneyGeek, Ecommerce Insiders, GoBankingRates, and ThriveBy30.