John M. Hoffman & Associates CPAs

"How do you calculate what must be paid in estimated taxes?"

There are generally two “safe” harbor methods for avoiding the penalty for underpayment of estimated taxes.

Your withholding and ratable estimated payments (meaning equal and on the government’s schedule) equal or exceed 100% of your previous year’s tax. For taxpayer’s with adjusted gross income in excess of $150,000 the threshold is 110% of last year’s tax.

Your withholding and ratable estimated payments equals of exceeds 90% of your current year’s tax.

For taxpayers with rising income (and not rising withholding), option 1 is generally preferred. In that case it is a smaller payment (you can safely owe any amount next April) and it is easy to calculate.
For taxpayers whose income is declining, option 2 is generally preferred. It is a more work to calculate but it is a smaller payment and there is no reason that you want to overpay your taxes – especially when your income is declining.

"What if I my income starts the year on the decline and finishes strong?"

You are able to use what is known as the annualized income method, which means you show what you earned each quarter, what the quarterly tax would be on that annualized income, and any shortfall is based on that.