I underpaid my taxes last year and now I'm paying estimated taxes for this year. This sucks, obviously, but I starting thinking...if you are a trader and make money, do you get reamed for not pre-paying your taxes? How does this work? I just started trading this year and never thought about this until now. If I made, say $100k this year, I could end up having to pay a shitload of pre-paid taxes next year by IRS rules. Now that would really suck.
If you don't "prepay" taxes, I'm assuming you mean making the estimated quarterly tax payments. The IRS will penalize you, but its not really a penalty. They just charge you for interest (treasury rate or so) on how much you should have paid quarterly. It's my understanding that most traders choose not to pay estimated taxes and accept the penalty (interest charge) because 1) traders' incomes can vary greatly from year to year, and 2) most traders would like to keep the capital for their trading until April 15. You make it sound like you are doomed with a big tax bill if you don't pay estimated taxes, but you are basically "only" charged the interest rate, which is even low by most standards (ie. credit cards, etc.).
Not quite. There are penalties in addition to the interest amount. Even if you're fully paid by the 4th estimated payment, there can still be penalties for not paying more of it earlier. It has happened to me several times, especially when my 4th quarter was bigger. (It's quite unfair, but the IRS literally expects you to ANTICIPATE how much you are GOING TO MAKE and make a quarterly estimate on your ESTIMATED PROFITS.)
Maybe turbotax screwed me over, but I was under the impression that I had to pre-pay taxes for this year b/c I had underpaid taxes for 2002. This is what the turbotax online told me.
Straight from Form 2210, Underpayment of Estimated Taxes, the calculation for penalty is Underpayment Amount x Days Since Underpayment/365 x .05 or .06. What are these additional penalties that you say you are paying?
Again, from form 2210, unless I'm misunderstanding things, you don't need to guesstimate your profits. All that is required for estimated taxes is that you pay the smaller of the tax amounts of the current tax year OR previous year. ie. if you make $80,000 in 2002, but end up making $100,000 in 2003...the smaller is $80,000, the quarterly is $20,000. As long as you make quarterly payments of $20,000, even if you make $100,000 the following year, as far as the IRS is concerned you've paid your estimated taxes in full. So if you have any doubts of what you will make next year, just pay what you're paying this year in quarterly payments for next year, and you'll be covered regardless of your taxes next year. If you owe more, you can pay at that time; if you paid too much, you can get it back.
The most important thing about those penalties is that the IRS and states( in PA) usually dont bill you for the late est taxes until 2 or 3 years later and by then you will notice it. Unless your accountant sees you were late and does a late est tax form. I hate tax time.
So I guess I probably shouldn't have done the estimated taxes...already sent them in for the first quarter. Doh!! See, I had a full-time job in 2002, but now am embarking on trading -- I'm not a pessimist or anything, but I highly doubt making the same amount this year...most likely much less. So I was confused, I thought I HAD to pay the estimated taxes b/c I underpaid 2002. But I don't, it seems. Thanks!!!
If you make very little for the first part of the year, then a bunch in the 4th quarter, you can also avoid the penalty for underpayment by simply writing a letter of explanation to that effect. They can ask for documentation that it really occured that way, but you aren't liable for guessing in the 1st quarter what you will make in the 4th. Jessie