CPA Exam — REG (Regulation)Federal Taxation of IndividualsHard
A client, married filing jointly, has a total tax liability of $20,000 for the current year. They had $18,000 withheld from their wages. What is the minimum additional tax payment they must make by the filing deadline to avoid the underpayment penalty, assuming no prior year safe harbor applies and they are not high-income taxpayers?
- A$1,800
- B$1,000
- C$2,000
- D$0
Show answer & explanationAnswer & explanation
Correct answer: D. $0
To avoid an underpayment penalty, taxpayers must generally pay at least 90% of their current year's tax liability. For the current year's tax liability of $20,000, 90% is $18,000. Since they had $18,000 withheld, they met the 90% safe harbor, and no additional payment is required to avoid penalty. They still owe $2,000, but they won't incur a penalty for it.
Why the other options are wrong
- A. This is 10% of the total tax liability, which is the amount underpaid if they only paid 90%.
- B. This is the general threshold where the penalty might apply if the underpayment is $1,000 or more.
- C. This is the actual amount of tax still owed, but not the amount required to avoid penalty.
Underpayment Penalty
A penalty assessed by the IRS if a taxpayer does not pay enough tax throughout the year, either through withholding or estimated tax payments, by the due dates.
- Generally applies if tax owed (after withholding) is $1,000 or more.
- Can be avoided by meeting specific safe harbor rules (e.g., 90% of current year tax).
- The penalty is calculated on the amount of underpayment for the period it was underpaid.
- Exceptions exist for certain situations, such as casualty, disaster, or disability.
Memory trick: Underpayment penalty? Not if you pay 90% current or 100/110% prior, by the deadline, or you'll feel the fire!