The IRS requires you to pay income tax as you earn income. When you are an employee that receives a W2, your tax is already paid evenly throughout the year. This is done when your employer withholds federal income tax from your paycheck every pay period, then remits that money to the IRS throughout the year.
But what happens when you are self-employed or have income other than your salary? Estimated tax is a way of paying tax on income from self-employment, interest, rent, dividends, or other sources.
There is a penalty for failing to make quarterly estimated tax payments, which is assessed when you file your tax return. The following scenarios will prevent you from incurring the penalty for not making estimated payments:
● You owe less than $1,000 when filing your tax return
● Your federal withholding will be at least 90 percent of your current tax liability
● Your withholding is at least 100-110 percent of last year’s tax liability
Farmers are one group of taxpayers that are exempt from the estimated tax penalty. In order to be eligible for this exclusion, ¾ of your taxable income must be derived from farming activities and you must file your tax return by March 1.