Avoiding Penalty for Underpayment of Withholding

[bicker]

What is the name of your state (only U.S. law)? MA

I received a distribution from an annuity, this year and checked the wrong box in the claim form, so no tax was withheld. The difference between the distribution and its cost basis is about $22,000. Am I going to get hit with any type of penalty (cash penalty, or having to file estimated taxes next year, which I consider a bit of a penalty), and if so, is there anything I can do now to prevent that from happening?

[LdiJ]

Originally Posted by bicker

What is the name of your state (only U.S. law)? MA

I received a distribution from an annuity, this year and checked the wrong box in the claim form, so no tax was withheld. The difference between the distribution and its cost basis is about $22,000. Am I going to get hit with any type of penalty (cash penalty, or having to file estimated taxes next year, which I consider a bit of a penalty), and if so, is there anything I can do now to prevent that from happening?

You probably will get hit with an underwithholding penalty, but that will depend on how your total tax return pans out. If the annuity was a retirement account and you are under 59 1/2 you could also get hit with a penalty for early withdrawal. You could make an estimated payment now however, and perhaps avoid any underwithholding penalties.

Unless you will have a similar situation for 2009 taxes, or something else that would an extra tax effect, you would not have to make estimated payments.

[bicker]

Thanks for the reply. It wasn't a distribution from my own retirement account.

Is there anything I can do now to avoid that penalty, other than making an estimated payment, such as selling stocks at a loss?

Also, I have another distribution coming, which is about 2/3 the amount of tax I expect to pay on the earlier distribution... could I just specify them have that distribution withhold 100% and avoid this penalty... in other words, do they care how the money was withheld or from what? or just that it was withheld before 12/31/2008?

[tranquility]

Numbers are important, but withholding will save you no matter how late in the year it was made.

[irsos]

Originally Posted by bicker

Thanks for the reply. It wasn't a distribution from my own retirement account.

Is there anything I can do now to avoid that penalty, other than making an estimated payment, such as selling stocks at a loss?

Also, I have another distribution coming, which is about 2/3 the amount of tax I expect to pay on the earlier distribution... could I just specify them have that distribution withhold 100% and avoid this penalty... in other words, do they care how the money was withheld or from what? or just that it was withheld before 12/31/2008?

As long as you have paid in 100% of your tax last year or 90% of your tax due this year, you will have no penalty.

[bicker]

We had a federal tax refund last year... so if I understand correctly, that means that we won't have a penalty for underpayment of withholding whatsoever?

[irsos]

Originally Posted by bicker

We had a federal tax refund last year... so if I understand correctly, that means that we won't have a penalty for underpayment of withholding whatsoever?

It has nothing to do with your refund, it is the total tax without regard to any withholding or estimated tax payments. In other words - If you had a tax liability of $10,000 and had paid in $12,000, then 100% of your last year's liability would be $10,000.

[Kiawah]

You will most likely get hit with an underwitholding penalty this year.

To minimize that penalty, file a 4th quarter 2008 estimated payment which is due 1/15/09 (too late for 3rd quarter). Since you didn't file the withholding checkbox, you should have paid estimated taxes in the quarter that you received your annuity, and if you had done that, you would be fine with no penalty. At this point, you are trying to salvage the additional interest charges that will be calculating for an additional quarter.

I personally would overpay the 4th quarter estimated payment, so that when you end up submitting your 1040 you are sure to be due a refund (enough to more than pay for the anticipated penalty).

[bicker]

I'm confused because I keep seeing contradicting information...

It has nothing to do with your refund, it is the total tax without regard to any withholding or estimated tax payments. In other words - If you had a tax liability of $10,000 and had paid in $12,000, then 100% of your last year's liability would be $10,000.

Uh, I've very confused. Since I got a refund for tax year 2007, that means I paid in 100% of my tax last year, right? I mean I paid more than 100% and got some back. Right? So, from what you've said, that means I shouldn't be hit with a penalty right?

But then...

Originally Posted by Kiawah

You will most likely get hit with an underwitholding penalty this year.

Why?

Originally Posted by Kiawah

To minimize that penalty, file a 4th quarter 2008 estimated payment which is due 1/15/09 (too late for 3rd quarter). Since you didn't file the withholding checkbox, you should have paid estimated taxes in the quarter that you received your annuity,

I just got the distribution, so this is current quarter, right?

Originally Posted by Kiawah

and if you had done that, you would be fine with no penalty.

Okay, so you're saying that if I file an estimated tax form by 1/15/09, then no penalty for tax year 2008, and no estimated tax for tax year 2009 right?

Originally Posted by Kiawah

At this point, you are trying to salvage the additional interest charges that will be calculating for an additional quarter.

Huh? Why would there be interest?

Originally Posted by Kiawah

I personally would overpay the 4th quarter estimated payment, so that when you end up submitting your 1040 you are sure to be due a refund (enough to more than pay for the anticipated penalty).

For $22,000, $7,700 is surely enough withholding, right?

[irsos]

Originally Posted by bicker

I'm confused because I keep seeing contradicting information...

Uh, I've very confused. Since I got a refund for tax year 2007, that means I paid in 100% of my tax last year, right? I mean I paid more than 100% and got some back. Right? So, from what you've said, that means I shouldn't be hit with a penalty right?

But then...Why?

I just got the distribution, so this is current quarter, right?

Okay, so you're saying that if I file an estimated tax form by 1/15/09, then no penalty for tax year 2008, and no estimated tax for tax year 2009 right?

Huh? Why would there be interest?

For $22,000, $7,700 is surely enough withholding, right?

For the second time, your refund last year has NOTHING to do with it.

[Kiawah]

Sorry, you didn't indicate exactly when the first payout occurred, so I had assumed it was earlier in the year (an earlier tax quarter). If you just received it this tax quarter, then submit a 4th quarter 2008 estimated payment to cover the amount that should have been withheld on that amount. You can figure the correct amount, by looking at the tax tables for your total income, and it will show you the % owed on the NEXT $$'s of income. Don't use your average tax rate. With a graduated tax that we have, the % on the first dollar you earned is less than the tax due on the last dollar you earned. You need to use the rate on your last dollar, as this additional income will be taxed at that rate (unless it's enough to push you in to even a higher tax rate).

The government wants the tax money, in the quarter that it was earned or received by you. Normally for most people with withholding, they get their tax money that way. When you have bubbles in income where there is no tax withheld, then you have to pay estimated taxes in that quarter.....unless you are sure that you won't fall outside the withheld income rules that other posters have indicated (comparisons to your actual tax liability last year, comparison to the amount of your total tax liability this year, etc). If you pay each quarter your tax liability for that quarter, then you'll be fine. Worst case if challenged, there is a form with a quarterly calculation on it, where you lay out all of your income and expenses by quarter, and the tax liability by quarter is calculated. This is then compared against the combination of your withholding and estimated taxes, by quarter. As long as you have more taxes than required for the income, no problems or penalty/interest. Sometimes this is required if you have an abnormally low 1-3 qtrs, and a huge income 4th qtr.

I have 6 tax ID's I've done estimated taxes for years, given very non-predictable income/dividend/capitalgains streams. Takes me less than an hour in total....once a quarter to get all of the information collected and recorded, taxes estimated (both federal and state) checks cut, and envelopes stamped and out the door. I always round the tax payment up to the next 100 dollar increment to definitely stay under the radar screen, and everything gets squared away on April 15th.

[tranquility]

Ignore Kiawah and your answer becomes clear. Just to recap.

1. Withholding is good for the whole year. Even if you pay it on the last day of the year.

2. The amount which must be paid in depends on your last year's taxes you pay. If you get a refund, that does not mean you paid no taxes, it means you put in too much for your tax liability and the government let you have the overpayment back.

And for something new, What that specific amount is is based on that dependence and changes based on certain facts and circumstances, including your income level last year.

[irsos]

Originally Posted by tranquility

Ignore Kiawah and your answer becomes clear. Just to recap.

1. Withholding is good for the whole year. Even if you pay it on the last day of the year.

2. The amount which must be paid in depends on your last year's taxes you pay. If you get a refund, that does not mean you paid no taxes, it means you put in too much for your tax liability and the government let you have the overpayment back.

And for something new, What that specific amount is is based on that dependence and changes based on certain facts and circumstances, including your income level last year.

I agree, Kiawah does not have a clue.

[Kiawah]

Download Form 2210 (underpayment of estimated taxes) and instructions from [url=http://www.irs.gov]Internal Revenue Service[/url]

and run the form with your actual data.


And for grins if you want, run a scenario where an individual earns income in the 1st quarter, and then pays the tax in the 4th quarter.

[LdiJ]

Originally Posted by tranquility

Ignore Kiawah and your answer becomes clear. Just to recap.

1. Withholding is good for the whole year. Even if you pay it on the last day of the year.

2. The amount which must be paid in depends on your last year's taxes you pay. If you get a refund, that does not mean you paid no taxes, it means you put in too much for your tax liability and the government let you have the overpayment back.

And for something new, What that specific amount is is based on that dependence and changes based on certain facts and circumstances, including your income level last year.

I think I am going to clarify something that the OP is not understanding:

As long as, for 2008, you paid in an amount equal to 100% of last year's tax liabilty, or 90% of 2008's liability, there is no underwithholding penalty. Its not that you had to pay 100% of last year's tax, its that you had to pay an amount equal to 100% of last year's tax, for THIS year.