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Hoping to avoid underpayment penalty on 2017 taxes

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As best as I can figure, I am likely to owe more than $1000 come tax time next year, so I am trying to be proactive now to avoid any underpayment penalties if possible.  

Of course, the first hope is that I meet one of the waiver conditions.  Unfortunately, only one of these is a possibility, and even that is hard to tell, as I am having trouble determining whether credits count or not.  Specifically, my credits and withholding this year would cover last year's tax bill (which I understand to be one of the waiver conditions), but withholding alone would not meet it.  I am not in a high enough bracket to require 110%.  Do credits count the same as withholding for this purpose? 

If I don't qualify for this waiver, the circumstances are still a bit unusual.  I'll provide the basics.

-If all I earn is my base salary, I get a sizeable refund each year.
-A few years back, I started picking up side work with my company.  What I have learned is that their tax calculations on the side work do not seem to be appropriate.  My refunds started decreasing accordingly.  Up until now, this was fine, as there was enough buffer that I still earned a refund each year, though it was continually decreasing as side work increased.  Last year I still had a small refund (about $100), despite having the side work account for almost 18% of my gross.
-Things were on track for about the same this year, so there weren't really any issues.  However, I just picked up a significant amount of side work.  As a result, up to about 30% of this year's gross will be sidework withheld at a lower rate.
-As best as I can predict, this will leave me with a tax liability greater than $1000 on April 15; however, just about the entirety of that liability is coming from this work that I just picked up, will start next week and will not even receive payment for until 10/31 and 12/31.  In fact, I haven't even been paid yet for 25% of the side work I have already done (will happen on 8/31).
In addition to avoiding the underpayment penalty, keeping the filing as simple as possible would obviously also be helpful.

It seems I have two main recourses: make an estimated payment or change my W4.  In the case of prepayment, it obviously creates quite a bit more paperwork and may not even solve the problem because I wasn't paying the whole year (though most of this income was late in the year).  In the case of the W4, it seems it would almost just be a guessing game.

Hopefully I didn't leave out anything too crucial.

Thoughts?  Thanks in advance.
 

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rated:
I believe credits count just like withholding. But can't you also Target the waiver for withholding at least as much as you did last year?

I missed the targets by just a little bit one year - the penalty was surprisingly modest, not worth stressing out about. If you're aware and trying to avoid it, there isn't a big first step. If you under-withhold by a small amount, I assume the penalty is still proportionate.

But you should also look into how your state deals with this. Mine at the time included payments made all the way through April 15 - no penalty for 0 withholding all year as long as you settled up by the final payment due date. But some might be less forgiving than the IRS too.

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If you are worried about underpaying, and not with parting with some extra money temporarily, just send a lump sum quarterly payment that'll cover what you expect the shortfall to be.  You can pay it online in about 3 minutes, and the "extra paperwork" is literally adding that payment amount on one line of next year's tax return.  Dont sweat it, unless you are trying to game the system by paying just enough but not too much.

If you dont get paid for the work until after Jan 1, the extra income wont count on your 2017 taxes anyways.

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What's with the cryptic post?

What was your 2016 AGI?
How much (total) was withheld from your paycheck in 2016?
What was your 2016 total tax (the amount you were "refunded" doesn't really matter except to the extent you're telling us your withholding covered your total tax)?
What's your expected 2017 AGI?
How much (total) do you expect will be withheld from your paycheck in 2017?

I agree with Glitch, just make a payment now to meet the safe harbor. If the IRS comes back and assesses an underpayment penalty because you didn't pay enough earlier in the year, then you can pay it or fight it then, but if you're not within the 110% safe harbor requirement it's unlikely to be very much.

In answer to your question about whether to have more withheld from wages, theoretically the amount withheld from wages is split equally throughout the year. However, if you're doing something weird (e.g. no withholding on any paycheck until the last 3 paychecks where the entire amount is withheld), be ready for the IRS to come in and challenge. Maybe it holds up, maybe it doesn't, but they will likely scrutinize it if they notice.

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Glitch99 said:   If you are worried about underpaying, and not with parting with some extra money temporarily, just send a lump sum quarterly payment that'll cover what you expect the shortfall to be.  You can pay it online in about 3 minutes, and the "extra paperwork" is literally adding that payment amount on one line of next year's tax return.  Dont sweat it, unless you are trying to game the system by paying just enough but not too much.

If you dont get paid for the work until after Jan 1, the extra income wont count on your 2017 taxes anyways.

I do this every year around November 1 to true up my withholding with some extremely variable part-time income that my wife brings in.  With my employer's payroll system, it is even easier.  I compute a rough estimate of the expected shortfall, divide by the number of pay periods remaining in the year, log in to the payroll system, enter an "additional withholding amount," and hit submit.  Then I make a note to go back in January and remove the entry.

OP - this isn't unique or complicated.  Just do it.   

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I seem to remember some threads about this recently. Even if you do nothing and are hit with the penalty we're talking $40?

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Stubtify said:   I seem to remember some threads about this recently. Even if you do nothing and are hit with the penalty we're talking $40?
  correct, its about 4%

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As a former 1099 based consultant, my income used to be very sporadic (not earning anything some months/quarters, earning quite a bit others).  I filed quarterly estimated taxes based on the income I earned in a particular quarter, where if I had no income in a particular quarter, I wouldn't file an estimated payment.  One year I made most of my income in Q4, so I had little (or no) estimated taxes for Q1 - Q3, w/ a large estimated payment in Q4 (due, I believe, by Jan 15 of the following year).

When it came time to doing my actual taxes, I recall there being an option to specify how much income was earned throughout the year (I think it was actually during each quarter).  I filed my taxes this way and don't recall being subjected to any underpayment penalties.  Never heard a peep from the IRS about my quarterly estimated taxes varying in amounts throughout those years.  It's been 10+ years since I've had 1099 income, so this was a while ago.

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SlimTim said:   I believe credits count just like withholding. But can't you also Target the waiver for withholding at least as much as you did last year?
...
But you should also look into how your state deals with this. Mine at the time included payments made all the way through April 15 - no penalty for 0 withholding all year as long as you settled up by the final payment due date. But some might be less forgiving than the IRS too.

  That would be a fair amount of withholding, as credits are a significant part...I'll give numbers lower down.  State should be fine, as they don't have tax credits like federal.  I'm 99% convinced the credits are what is causing the entire underpayment issue.
marginoferror said:   
 

I wasn't trying to be cryptic, and I really am not trying to do anything weird.  I haven't touched my W4 since I was hired 5 years ago.  That is what I realize needs to be addressed now.  

I think the following numbers are likely more useful than AGI.  Clarification: I only need to meet the 100% requirement; I do not earn enough to require 110%: 
Approximate 2016 tax: $5800
Approximate 2017 withholding: $3000
Approximate 2017 credits: $3000
Estimated 2017 tax: $7000+

From IRS site, for 2016 (so increment years)

"In general, you may owe the penalty for 2016 if the total of your withholding and timely estimated tax payments didn't equal at least the smaller of:

  1. 90% of your 2016 tax, or
  2. 100% of your 2015 tax. (Your 2015 tax return must cover a 12-month period.)"

So again, I guess this boils down to the following:
1) Do credits count toward the withholding?  If so, this seems like it will be a non-issue for this year, as, combined, I easily reach the 100% number from last year and meet requirement 1. 
2) If not, I just re-file a W4 with an entry on line 6 that covers enough to eliminate any more problems for the rest of this year.  This is far simpler than I was realizing based on what I had been reading this morning. Thanks, dcwilbur.  This is a great solution both short and long term.

Thanks so much everyone.  I really appreciate it.

rated:
I usually owe around 5k each year and mark the box to have irs calculate penalty(Turbo Tax usually has it around $20-30) and bill me. I have never been billed

rated:
This is really a safe harbor question, at least at this point, since OP actually overpaid last year's tax (2016 tax) by a small amount.  So 2017 will be first year when OP is fearful of possible underpayment.  I have not looked this up so am working from memory here and could be in error.  Believe OP must pay in advance 100% of his 2016 tax amount regardless of 2017 earnings.  However, there is an income test if I recall correctly.  If total earnings are higher than some threshold then there would be the requirement that 110%, not just 100%, of 2016 tax be paid in advance.

Speaking generally, when a taxpayer has a single fat income year, following on prior thinner year, there is no requirement tax be paid on that fat income until April fifteenth of the following year.  For the OP that would be April 15, 2018.  The "gotcha" in the safe harbor rules is when taxpayer has two fat years in a row.  That's when you really have to fear underpayment penalty.  This is because the safe harbor rules look back to the prior year's income (not the current year's income) to determine your safe harbor payment amount.

OP should obtain a copy of the safe harbor rules and study those rules.  But at this point I am confident OP is fine, provided he is paying as much tax as was paid in 2016, and provided he is not a high income person.

rated:
shinobi1 said:   This is really a safe harbor question, at least at this point, since OP actually overpaid last year's tax (2016 tax) by a small amount.  So 2017 will be first year when OP is fearful of possible underpayment.  I have not looked this up so am working from memory here and could be in error.  Believe OP must pay in advance 100% of his 2016 tax amount regardless of 2017 earnings.  However, there is an income test if I recall correctly.  If total earnings are higher than some threshold then there would be the requirement that 110%, not just 100%, of 2016 tax be paid in advance.

Speaking generally, when a taxpayer has a single fat income year, following on prior thinner year, there is no requirement tax be paid on that fat income until April fifteenth of the following year.  For the OP that would be April 15, 2018.  The "gotcha" in the safe harbor rules is when taxpayer has two fat years in a row.  That's when you really have to fear underpayment penalty.  This is because the safe harbor rules look back to the prior year's income (not the current year's income) to determine your safe harbor payment amount.

OP should obtain a copy of the safe harbor rules and study those rules.  But at this point I am confident OP is fine, provided he is paying as much tax as was paid in 2016, and provided he is not a high income person.

Agreed: this is largely a safe harbor question now.  I am still trying to figure out though if I am already in it. Namely, am I in the safe harbor if I was able to get there only by withholding AND credits?  (Withholding alone did not get me there.)  This is what has not been addressed yet, and I cannot find mentioned specifically anywhere in the IRS publications I have seen thus far.  I think it is an interesting question still, but a largely academic one at this point.

I am just going to increase withholding to ensure I am in the safe harbor.  Since I think this will be pretty close to the amount of tax that I ultimately owe anyway, it seems a good solution.  I just never realized that one could request a specific amount of withholding until now (because it was never relevant to me).  I was under the false impression everything was left to the employer's calculations (which is how I got into this problem in the first place).  Seems a trivial misunderstanding now, but it was there nonetheless.

This has also been a good exercise for me for future tax planning.  Without looking at this as in depth as I did, I'm not sure I would have realized that my income for this year is right up against jumping to a higher tax bracket AND having credits reduced as well.  As such, I now know that taking even more of this extra work (and the time commitment and stress that comes with it) is not remotely worth it, and in fact, a strong case can be made for cutting back (especially if something like a raise were to happen).  So future financial (and health) planning took place as well.

Again, thanks all.

rated:
motsuka said:   I usually owe around 5k each year and mark the box to have irs calculate penalty(Turbo Tax usually has it around $20-30) and bill me. I have never been billed
  QFT. Similar here, but I typically owe a tad more than $5k, unfortunately. Even still, the penalty is pennies compared to the actual tax obligation.

rated:
Did you fill out a w-4 at your side job? You can amend it so that extra taxes are withheld. If you are paid 1099 you can make a one time tax prepayment, or make quarterly tax payments.

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DoctorDeals said:   Of course, the first hope is that I meet one of the waiver conditions.  Unfortunately, only one of these is a possibility, and even that is hard to tell, as I am having trouble determining whether credits count or not.  Specifically, my credits and withholding this year would cover last year's tax bill (which I understand to be one of the waiver conditions), but withholding alone would not meet it.  I am not in a high enough bracket to require 110%.  Do credits count the same as withholding for this purpose?
 

  
Of course credits count. Take a look at Form 1040 line 63, "Total Tax". That's the number you are interested in.

rated:
DoctorDeals said:   
shinobi1 said:   This is really a safe harbor question, at least at this point, since OP actually overpaid last year's tax (2016 tax) by a small amount.  So 2017 will be first year when OP is fearful of possible underpayment.  I have not looked this up so am working from memory here and could be in error.  Believe OP must pay in advance 100% of his 2016 tax amount regardless of 2017 earnings.  However, there is an income test if I recall correctly.  If total earnings are higher than some threshold then there would be the requirement that 110%, not just 100%, of 2016 tax be paid in advance.

Speaking generally, when a taxpayer has a single fat income year, following on prior thinner year, there is no requirement tax be paid on that fat income until April fifteenth of the following year.  For the OP that would be April 15, 2018.  The "gotcha" in the safe harbor rules is when taxpayer has two fat years in a row.  That's when you really have to fear underpayment penalty.  This is because the safe harbor rules look back to the prior year's income (not the current year's income) to determine your safe harbor payment amount.

OP should obtain a copy of the safe harbor rules and study those rules.  But at this point I am confident OP is fine, provided he is paying as much tax as was paid in 2016, and provided he is not a high income person.

Agreed: this is largely a safe harbor question now.  I am still trying to figure out though if I am already in it. Namely, am I in the safe harbor if I was able to get there only by withholding AND credits?  (Withholding alone did not get me there.)  This is what has not been addressed yet, and I cannot find mentioned specifically anywhere in the IRS publications I have seen thus far.  I think it is an interesting question still, but a largely academic one at this point.

I am just going to increase withholding to ensure I am in the safe harbor.  Since I think this will be pretty close to the amount of tax that I ultimately owe anyway, it seems a good solution.  I just never realized that one could request a specific amount of withholding until now (because it was never relevant to me).  I was under the false impression everything was left to the employer's calculations (which is how I got into this problem in the first place).  Seems a trivial misunderstanding now, but it was there nonetheless.

This has also been a good exercise for me for future tax planning.  Without looking at this as in depth as I did, I'm not sure I would have realized that my income for this year is right up against jumping to a higher tax bracket AND having credits reduced as well.  As such, I now know that taking even more of this extra work (and the time commitment and stress that comes with it) is not remotely worth it, and in fact, a strong case can be made for cutting back (especially if something like a raise were to happen).  So future financial (and health) planning took place as well.

Again, thanks all.

  
Yeah, you raise a good point.  It's not something I'm able to remember.  I think there is a safe harbor provision related to historical quarterly filers, but I'm not sure.  You are not a historical quarterly filer so you might be treated differently.  I had been a quarterly filer for tens of years (still am), a fact which helped me skate when I faced your situation several years ago.

My gut, which could be wrong in your situation, says if you pay timely this year an amount equal to your 2016 tax, regardless how you pay whether through withholding or otherwise, you are good.  I know that works for historical quarterly filers like me.  I know because I have done this, ending up owing the IRS a fortune the April fifteenth following an unusual fat income year.  And they never raised any fuss whatsoever;  zip, zero, nada.  But for taxpayers who are not historical quarterly filers I'm just not certain the same rules apply.  They might;  just not sure because that was never my situation .  If the same rules do apply, there is absolutely no need for you to increase withholding, which in effect would be unnecessary early payment of tax not required to be paid until April 15, 2018.  You could instead take that money, put it in the bank, and collect interest between now and next April.  That's what I did back when I had my fat income year.

rated:
Just max out your traditional IRA before April 2018 so you don't owe the IRS anything.

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