Warning in advance: whatever questions you might have about estimated taxes, there are no satisfying answers! There’s a reason they’re called “estimated”; you’re just throwing numbers in the general vicinity of an imprecise target and hoping for the best.
That said, there are three questions people typically ask:
- Do I need to pay estimated taxes?
- How do I pay estimated taxes?
- How much should I pay?
The IRS addresses all of those questions here. (The rules for Oregon are substantially the same.) You should read that, if you want actual answers to those questions above.
If, having read that, you’re feeling a bit overwhelmed, here are some things to consider – though I apologize in advance if this does nothing but add to the confusion!
- Do I need to pay estimated taxes? You don’t need to make quarterly estimated tax payments if you’re ok with paying the associated “penalty” at tax time. It’s not truly a “penalty”, though; it’s just the IRS charging you interest, an amount which depends on 1) the current interest rate environment (the IRS rate is currently around 0.75% per quarter, as of early 2021) and 2) a weirdly complicated calculation of the quarterly underpaid balance to which that interest rate applies. So do you “need” to pay estimated taxes? No. Should you? Maybe, but that’s up to you and your particular relationship with your own money and the IRS. Some of my clients pay all of their taxes in one lump sum by April 15th, swallow any associated interest charge/penalty, and call it good. They’re able to use those funds, and earn interest or dividends or whatever, up until the date they cut that check to the IRS. It’s a totally defensible strategy; just be sure you have the funds saved up to pay off the full balance (plus interest) at tax time.
- How do I pay estimated taxes? You’d think you could set up some kind of monthly recurring payment, wouldn’t you? If you can figure out how to do that, let me know. For now, we’re stuck with this inane quarterly system … which isn’t even exactly quarterly, since payment due dates are sometimes 2, sometimes 3, and sometimes 4 months apart. (I’m not making this up.) You can pay by check, or you can pay the IRS electronically here and Oregon here. There’s a payment voucher if you’re mailing a check (see here and here)*, but aside from that, there’s no income tax form that goes along with your estimated tax payment. You’re not reporting your quarterly income, or anything like that. Make the payments, keep a record of the dates and amounts paid, claim them as amounts previously paid when you file your tax return next year, and that’s it.
- How much should I pay? There’s no way for me to answer this without doing a lot of work, for which I’d need to invoice you an amount that’s almost certainly going to be considerably more than any “penalty” you’d face by not paying estimated taxes at all. The “correct” amount to pay is going to depend on your particular tax situation, your particular tax history, and what you’re trying to achieve or avoid by making estimated tax payments. Different people with exactly the same tax situation might reasonably choose to pay different amounts. And different people with exactly the same tax bill are (probably) going to be subject to different interest charges, depending on the types of prepayments made, the timing of prepayments, and their tax situation for the prior year. It’s not simple to figure this stuff out, even for me! But in the interest of providing you with some kind of answer: one perfectly reasonable approach would be to pay a fixed percentage** of your quarterly self-employment income, rental income, investment income, etc. Another approach is to take the amount that you owed in taxes for the previous year, divide by four, and pay that amount quarterly for the current year. Neither of these approaches will provide any sort of guarantee that you won’t overpay or underpay. But hey, they’re called “estimated” taxes for a reason, and you’re not going to get in any trouble at all if your estimate is off. Even wildly off.
*Depending on when I last updated those links, they may point to the wrong tax year. A quick Google search should pull up the right payment vouchers, in that case. They’re called 1040-ES for federal, and OR-40-V for Oregon.
**A typical amount might be 25% of your un-taxed income towards federal taxes, and 8% to Oregon. Those numbers will often put you in the right ballpark, but … well, just as often, they won’t. Depending on your total income, you might want to up it to 35%/9%, or drop it to something like 15%/7%.