No, that title isn’t sarcastic.
I actually view the fact that I have to pay quarterly estimated taxes for 2014 as a sign that I’ve made it as an investor. When your dividends are sizable enough to require paying quarterly taxes above and beyond what your employer withholds from your check I think that’s a good sign that your passive income snowball is definitely rolling downhill.
So 2014 is the first year I’ll be paying estimated taxes, and I thought I’d share the process with any other dividend investors out there that might be interested.
Paying Quarterly Taxes Is Surprisingly Easy
For all the complexities that exist within government – especially the IRS – paying estimated taxes is refreshingly simple. The process itself was actually quite easy. Meanwhile, figuring out how much you owe and remembering to actually pay might be a different story.
The first thing do do is head over to the Electronic Federal Tax Payment System (EFTPS for short) website. The IRS allows you to pay online, and that’s what I recommend doing.
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You’ll then want to enroll if this is your first time. By clicking the little “Enroll” button near the middle right of the screen you’ll be taken to another area of the site that will allow you to enter some personal information about yourself. Here, you’ll enter your taxpayer and contact information, as well as your bank info. Unfortunately, it won’t be quite that easy after you’re done there. As a security mechanism the IRS will actually send you a PIN and enrollment number by snail mail to make sure you are who you say you are.
Once you receive this information by mail (it took 5 business days for me) you’ll then use the PIN and enrollment number to finish setting up your account. To do so, you’ll want to click on the “My Profile” tab near the top of the page, then “Need a Password” on the following screen. Choose a password and input the information the IRS sent you. Once you do so you’re in! Voila. Really easy stuff.
Once you’re in you can can make changes to your account like your profile or payment information. Once you’re satisfied with how your account is set up the only thing left to do is to pay. To pay you simply click the “Payments” tab near the top of the screen on the main menu bar and then follow the prompts to pay.
It’s really that easy.
Now The Hard Part – Figuring Out How Much You Owe
However, like I said earlier the harder part will be to actually figure out how much you will owe. For this, the IRS recommends using worksheet 2-14, which you can find HERE. While this worksheet is useful for those of us who make income from self-employment sources that have no outside withholding, dividend taxation is actually rather simple.
First, you’ll simply want to figure out which federal income tax bracket you fall in. I’m not going to delve too far into this, because that would be beyond the scope of this post. But once you figure out which federal bracket you fall into figuring out your tax percentage on dividends should be relatively easy.
For the 10% and 15% tax brackets qualified dividends are taxed at 0%. For the 25%, 28%, 33%, and 35% federal tax brackets qualified dividends are taxed at 15%. If you’re one of the lucky few in the 39.6% tax bracket you’ll be paying 20% on qualified dividends. Ordinary dividends are still taxed at your marginal rate.
For example, if you’re in the 25% tax bracket and you’re going to earn $7,500 in qualified dividends during the year of 2014 you’ll owe $1,125 in federal taxes. You would then simply divide that by 4 – because you’re paying out four quarterly payments. That gives us a sum of $281.25. So you would send in four equal payments of $281.25 to the IRS through the EFTPS this year.
It’s important to note that there are time restrictions on this. You must pay the first quarter’s estimated tax no later than April 15th for income earned from January 1 – March 31. The second quarter deadline is June 15, third quarter is September 15, and then the four quarter’s cutoff date is January 15 of the following year.
Paying Quarterly Taxes Is A Good Thing
While this all sounds like a bummer, I actually view the fact that I’ve reached the point to where paying quarterly estimated taxes is necessary as a good thing. As always, having a large tax bill is usually due to having a large income. I could go back to the days in my early 20s when I always got a tax refund in the spring because I never made much money, but I think I’ll stick to the situation I’ve built for myself now. Paying quarterly taxes due to dividend income means your dividends have grown to the point to where you actually have to manage that snowball. Folks, that’s a good thing! It means it’s turning into a monster. A cash monster. Congratulations, you’ve arrived!
So I just sent in $700 for my first quarter’s estimated taxes. Although this is much more than I expect to pay in taxes for dividend income, I am also receiving online income that I have to account for. As such, I sent in what I hope will be enough to cover any outstanding liabilities for both my dividend income and online income.
You Can Avoid Quarterly Estimated Taxes…For A While
Now, you can avoid quarterly taxes through a few different methods. What I’ve done over the last couple years is make sure to boost my withholding at work toward the end of the year to make sure I paid more than the prior year. Generally speaking, as long as you paid more in the current tax year than you did in the prior tax year you can avoid any underpayment penalties. Also, you’ll generally avoid penalties if you owe less than $1,000 above and beyond what was withheld or paid during the tax year. Furthermore, you’ll generally avoid a penalty if you paid at least 90% of owed taxes for the tax year in question. For instance, I owed $2,777 for the 2013 tax year because of my dividend income and online income, but I made sure to pay more in 2013 than I did in 2012 by having my employer withhold a little extra in December. Thus, I was not charged any underpayment penalties.
However, I owed quite a bit this year. And with my dividend income growing at a substantial rate I knew I couldn’t game the system much longer. So this year I decided to bite the bullet and actually pay the quarterly estimated taxes. And to my surprise the whole process was astonishingly easy. I hope that by paying out more every quarter I’ll owe much less come tax time next year.
How about you? Paying quarterly estimated taxes? Do you find it difficult?
Thanks for reading.
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Special note: I’m not a tax professional. What you see is a rundown of my recent experience paying my quarterly estimated taxes for the first time. As always, you should consult a tax professional for any tax questionsor any specific tax situations.