If you are self-employed or started a business on the side in 2020 for extra income, you are required to pay estimated taxes to the IRS on a quarterly basis. Although the IRS extended the deadlines for the first and second quarters’ estimated tax payments due to the COVID-19 pandemic, third and fourth quarter deadlines for 2020 self-employed estimated tax payments remain unchanged.
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When are 2020 Q4 estimated taxes due for self-employed individuals?
For people earning wages from employers who deduct and make income tax payments on behalf of their employees with each paycheck, there is just one annual tax deadline each year: April 15. However, for entrepreneurs, freelancers, and anyone else earning income without tax withholding, the IRS has established quarterly estimated tax deadlines throughout the year. These self-employment tax deadlines are designed to ensure taxes are paid on income as it is earned.
For the fourth quarter 2020, self-employed estimated income tax payments are due no later than January 15, 2021.
How do I determine my estimated quarterly taxes?
Your estimated taxes are based on the income you earn. In addition to that, self-employed individuals must also pay a self-employment tax and may be subject to the alternative minimum tax. Estimated quarterly tax payments are designed to include all of these taxes. You should estimate your quarterly tax payments as accurately as possible, as doing so can help you avoid unnecessary penalty payments and other unwelcome surprises in April when your tax return is due.
To determine the amount of taxes you owe, you need to determine your estimated adjusted gross income (AGI), taxable income, taxes, deductions, and credits for 2020. IRS Form 1040-ES includes a worksheet you can use to estimate the amount of taxes you need to pay each quarter.
The COVID-19 pandemic has disrupted incomes for many self-employed individuals, which will impact the amounts of estimated taxes owed. Fortunately, your estimated quarterly taxes do not need to be the same for every quarter of the tax year. For example, if your estimate for the third quarter 2020 was too high and you paid more than you needed to because your income was down, you can adjust the amount for your fourth quarter estimate accordingly.
How will PPP loan forgiveness affect my quarterly taxes?
The first Paycheck Protection Program (PPP), authorized by the CARES Act of April 2020, offered funds to qualified small businesses, helping them meet payroll expenses and stay in business despite slowdowns and closures resulting from the COVID-19 pandemic. When used for qualified expenses, the loans were forgivable. The PPP was revived in a new COVID Relief bill that was signed into law in December 2020.
For tax purposes, there are a couple of things to keep in mind. First, if you received a PPP loan in 2020 and met all of the requirements for forgiveness of the loan, that amount will not result in taxable income. Second, the new COVID Relief Bill, passed in December 2020, allows for the deductibility of business expenses that were paid for by funds from a PPP loan that is later forgiven. So you can pay for qualified business expenses with your PPP loan, have the loan forgiven (which means you don’t have to pay it back), and still deduct those business expenses from your 2020 taxes.
Business owners and other self-employed individuals should seek guidance from tax and legal professionals to determine the impact of PPP loans, as well as other federal or state aid received in 2020, on their specific circumstances.
Is there a penalty for underpayment of estimated taxes?
Self-employed taxpayers who don’t pay enough in estimated taxes throughout the year may be subject to penalty payments, due with the final tax payment for the year in April. If you underpay your taxes by less than $1,000, or have paid the lessor of at least 90 percent of the taxes owed for the current year or have paid 100 percent of the taxes owed for the prior year through tax remittances made throughout the current year, the penalty is generally waived.
There are some additional circumstances under which the IRS may waive the underpayment penalty, including if the underpayment was due to a casualty, disaster, or other unusual circumstances and the IRS determines a penalty would be inequitable, or you retired or became disabled during the tax year and the underpayment was not due to willful neglect.
You can use IRS Form 2210 to determine whether you owe a penalty for underpayment and, if so, calculate the amount owed.
Seeking Professional Guidance Can Help You Meet Your Self-Employed Tax Obligations
If you believe you will owe income and self-employment taxes for earnings in the fourth quarter 2020, be sure to calculate and pay your estimated taxes by January 15, 2021, in order to avoid potential tax penalties.
Sole proprietorships, limited liability companies (LLCs), partnerships, and corporations are taxed differently under current federal and state tax regulations. Some business owners may wish to explore whether, and to what extent, changing the form of business entity might impact taxes owed in the future.
If you have legal questions about your tax obligations as a self-employed individual, talk to a Rocket Lawyer On Call® attorney for fast and affordable answers.
This article contains general legal information and does not contain legal advice. Rocket Lawyer is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.