You just finished a good year. Sales and profits were up nicely compared to the year before. You're feeling that you've made it through the worst of the recession and you have money in the bank. As you get ready for your meeting with your CPA, you're also proud that you were able to make all of last year's estimated tax payments.
So, now it's March 1st, you meet with your CPA and he delivers the bomb: "You owe the IRS $25,000 for last year's income tax," he says flatly. Stunned, you wonder how this could possibly be true. You know that last year you paid all the payments that he printed on the estimated tax vouchers. What the heck is going on?!
When your CPA prepared the estimated tax vouchers, the amounts printed on the vouchers were calculated to avoid penalties for underpayment - based on the prior year's tax liability. Paying these printed amounts ensured that you would avoid penalties, but did NOT ensure that you are paying enough in estimated tax payments to avoid the exploding tax bill. For business owners and others who are self-employed, your fluctuating taxable income from year-to-year will expose you to the shrapnel of these exploding tax bills.
Practical advice: Instead of relying on the pre-printed estimated tax vouchers that your CPA gives to you, pay your estimated tax based on a good estimate of your taxable income from each just-completed quarter. One of the ways to do this is to ask your CPA to prepare an analysis of your net taxable income as a percentage of your gross revenue. Also, ask your CPA for the likely federal and state income tax rates which will apply to business (including Social Security and Medicare). Then, to calculate each quarter's estimated tax payment, the math is simple (remember to do for both federal and state):
Current quarter's revenue $ xxxxx.xx
X Net taxable income % xx%
------------
Estimated taxable income xxxx.xx
X Income tax rate xx%
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Estimated tax payment $ xxxx.xx
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Using this practical, easy method and making timely estimated payments should enable you to consistently avoid the big, negative surprises of the exploding tax bill.
Ken Folberg is Managing Director of KSF CPA Services LLC, a firm of Certified Public Accountants and business advisors with offices in Ripon, Milwaukee and Berlin, Wisconsin, and is an occasional contributor to several other publications.
© 2011 KSF CPA Services LLC, all rights reserved.
Contact me at: ken.folberg@ksfcpa.com
(262) 421-1170 Office - Milwaukee
(920) 299-5120 Office - Ripon and Berlin
(877) 277-7151 Fax
Tuesday, July 5, 2011
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