CPA Exam — REG (Regulation)Federal Taxation of IndividualsMedium
A taxpayer is self-employed and expects to have a substantial increase in income for the current tax year compared to the prior year. Their prior year's AGI was $100,000. To avoid an underpayment penalty, what is the minimum estimated tax payment percentage of the current year's tax liability they generally need to pay if their AGI for the prior year was NOT over $150,000?
- A110%
- B80%
- C90%
- D100%
Show answer & explanationAnswer & explanation
Correct answer: C. 90%
To avoid an underpayment penalty, a taxpayer generally needs to pay at least 90% of their current year's tax liability or 100% of their prior year's tax liability (110% if prior year AGI exceeded $150,000). Since the prior year's AGI was not over $150,000, 100% of prior year's liability is an option, but 90% of current year's liability is also a general safe harbor.
Why the other options are wrong
- A. This is the 'prior year' safe harbor for taxpayers with AGI exceeding $150,000 in the prior year.
- B. This percentage is incorrect for the general safe harbor rules.
- D. This is the 'prior year' safe harbor for taxpayers with AGI not exceeding $150,000 in the prior year.
Estimated Tax Payments Safe Harbors
Rules that, if met, allow taxpayers to avoid underpayment penalties for estimated taxes. Generally, taxpayers must pay at least 90% of the current year's tax liability or 100% (or 110%) of the prior year's tax liability.
- Safe Harbor 1: Pay 90% of current year's tax.
- Safe Harbor 2: Pay 100% of prior year's tax (if prior AGI <= $150,000).
- Safe Harbor 3: Pay 110% of prior year's tax (if prior AGI > $150,000).
- Payments are typically made in four equal installments.
Memory trick: Estimate your tax, pay 90% current or 100/110% prior, or the IRS will roar!