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Thursday, October 4, 2018

Personal Financial Planning: An "How-To" Guide (part 18)


Estimates, Extensions, and Amendments
by
Charles Lamson

You may need to file a declaration of estimated taxes with your return and to pay taxes on a quarterly basis. Or perhaps you are unable to meet the normal April 15 filing deadline or need to correct a previously filed return. Let's look at the procedures for handling these situations.

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Estimated Taxes

Because federal withholding taxes are regularly taken only from employment income, such as that paid in the form of wages or salaries, the IRS requires certain people to pay estimated taxes on income earned from other sources. This requirement allows the principle of "pay as you go" to be applied not only to employment income subject to withholding but also to other sources of income. The quarterly payment of estimated taxes is most commonly required of investors, consultants, lawyers, business owners, and various other professionals who are likely to receive income in a form that is not subject to withholding. Generally, if all your income is subject to withholding, you probably do not need to make estimated tax payments.

If you meet certain IRS requirements with regard to your tax liability and withholding, you must file a declaration of estimated taxes (Form 1040-ES) and make estimated tax payments. When the total of tax withheld and estimated payments does not meet IRS guidelines, you must pay estimated taxes consistent with the actual income earned in the immediately preceding quarter to avoid penalties. The estimated tax form packet includes a worksheet to calculate your estimated tax liability for the coming year. Each estimated tax payment equals the tax payable on income earned in the preceding quarter, or one-fourth of the total amount paid in taxes during the immediately preceding year, or one-fourth of the total amount paid in taxes during the immediately preceding year, less the amount of tax withheld during  the preceding quarter. For example, after making a preliminary calculation, Terry Becker estimated that he would owe about $500 for the year 2016 on his additional income. Exhibit 1 shows the form that Terry Becker submitted on September 15, 2016 with his estimated tax payment for the preceding quarter---$125, or one-quarter of $500.


The declaration of estimated taxes is normally filed with the tax return. Estimated taxes must be paid in fourth quarterly installments on April 15, June 15, and September 15 of the current year, and January 15 of the following year. Failure to estimate and pay these taxes in accordance with IRS guidelines can result in a penalty levied by the IRS.

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April 15: Filing Deadline

At the end of each tax year, those taxpayers required to file a return must determine the amount of their tax liability---the amount of taxes that they owe as a result of the past year's activities. The tax year corresponds to the calendar year and covers the period January 1 through December 31. Taxpayers may file their returns any time after the end of the tax year and must file no later than April 15 of the year immediately following the tax year (or by the first business day after that date if it falls on a weekend or federal holiday). Taxpayers who file Form 1040EZ can file their returns by touch-tone phone using TeleFile.  (Qualifying taxpayers receive special TeleFile tax packages.) If you have a computer, a modem and tax preparation software, you can probably use the IRS's e-file and e-pay to file your return and pay your taxes electronically, using either a credit card or authorizing an electronic withdrawal from your checking or savings account. You can use an e-file provider, who may charge a fee to file on your behalf, or do it yourself using commercial or tax preparation software.

Depending on whether the total of taxes withheld and any estimated tax payments is greater or less than the computed tax liability, the taxpayer either receives a refund or has to pay additional taxes. For example, assume that you had $2,000 withheld and paid estimated taxes of $1,200 during the year. After filling out the appropriate tax forms you find your tax liability is only $2,800. In this case, you have overpaid your taxes by $400 ($2,000 + $1,200 - $2,800) and will receive a $400 refund from the IRS. On the other hand, if your tax liability had amounted to $4,000, you would owe the IRS an additional $800 ($4,000 - $2,000 - $1,200). Taxpayers can pay their taxes using a credit card, however, because the IRS cannot pay credit card companies an issuing fee, taxpayers must call a special provider and pay a service charge to arrange for the payment.

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Filing Extensions and Amended Returns

It is possible to receive an extension of time for filing your federal tax return. You can apply for an automatic 4-month filing extension, which makes the due date August 15, simply by submitting form 4868. In filing for an extension, however, the taxpayer must estimate the taxes due and remit that amount with the application. The extension does not give taxpayers more time to pay their taxes. Taxpayers can also request additional extensions beyond the 4-month automatic extension, but the IRS will review reasons for the request to decide whether to grant the extension.

After filing a return, you may discover that you overlooked some income or a major deduction or made a mistake, and, as a result, paid too little or too much in taxes. You can easily correct this by filing an amended return (Form 1040X) that shows the corrected amount of  income or deductions and the amount of taxes you should have paid, along with the amount of any tax refund or additional taxes owed. You generally have 3 years from the date you file your original return or 2 years from the date you paid the taxes, whichever is later, to file an amended return. If you prepare and file your amended return properly and it reflects nothing out of the ordinary, it generally will not trigger an audit. 

*SOURCE: PERSONAL FINANCIAL PLANNING, 10th ed., 2005, LAWRENCE J. GITMAN, MICHAEL D. JOEHNK, PGS. 112-114*

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