1099 Interest Income

jn1989 | Jun 16, 2023 | 3 posts since 2022

Happy Friday...

With increased interest rates my interest income has gone up substantially over the last couple of years. I have W2 income and I am in the 24% marginal bracket (all of my interest income is taxed at this rate). Yesterday I calculated what likely total income would be including 1099 interest, less applicable deductions. I am only paying in taxes deducted from W2 income. It's looking like I could owe several thousand dollars if I don't adjust my deductions. I have regularly had to pay in $1-2k, but this year would be unusual. Are there penalties assessed if I don't pay enough/withhold enough, but pay by the file date?

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Answers

Janicefr48 | Jun 16, 2023 | 40 posts since 2022

I have similar concerns. For several years we have not had any taxes deducted from our SS. Our only other income has been RMD's, dividends and interest. Each year I have calculated what I thought would cover the taxes and had a it taken from the lump sum RMD at the end of the year and sent by the Financial institution. Sometimes I have had to sent the state in myself since some won't send to some states. So far no problem. This year because I converted some Trad to Roth, I calculated what I thought would be owed and am sending in quarterly estimated taxes but really don't know if it will be sufficient. I have always wondered if it mattered if it was sent in quarterly or all in one check as long as it was sent before the end of the year or the last estimated tax due date. Does anyone know???

111 | Jun 17, 2023 | 672 posts since 2019

Since the remedy for some people (especially many retired people) is to start or increase the paying of estimated taxes, be wary of the dates these are required. A logical person would think that because there is one required each quarter, the payment dates would be 3 months apart. Nope! In its infinite wisdom your Federal government chose Jan. 15, (for the prior year), Apr. 15, June 15, and Sept. 15. Many states follow suit. Same gub'mint that until recently said we must take IRA distributions at age 70 and a half. Sheesh!

Confused1 | Jun 17, 2023 | 87 posts since 2018

A couple of years ago I was 2 weeks late (forgot) to pay one of my estimated tax payments and they charged me $1 penalty when I filed my tax return which I could have appealed but did not need the hassle. It was only a $300 payment if I remember correctly.
I always include my Roth Conversion taxes in my estimated payments. and always make sure I pay more than the previous year to stay in Safe Harbor.

Striker | Jun 17, 2023 | 73 posts since 2017

Many of us on this site, including myself, will have a substantial increase in taxable income this year, due to the rise in interest rates. You can either spend some time calculating what that interest income will be for the year, and pay the taxes quarterly on 1040-ES. That is what I did. I also factored in a sizable partial Roth conversion.
A simpler approach would be to take advantage of the Safe Harbor Act. If you have no other with holding, just send in the total amount you paid in last year's taxes spread out over 4 quarters on the 1040ES. You will not be subject to penalty, if you pay in at least 100% of last years tax (110% if your AGI is over $150K.
If you have concerns about a large tax bite on a late year Roth conversion, you can always have the institution with hold tax at any amount. That will be reported to the IRS on your year end 1099-R just like any other with holding and figured into the tax.
Easiest path forward is probably the Safe Harbor.

sams1985 | Jun 17, 2023 | 781 posts since 2022

https://www.hrblock.com/tax-center/irs/refunds-and-payments/underpayment-of-estimated-tax/

Read up on the safe harbor rule and see if it applies to you. You should be okay for this year(unless your w2 withholding drastically decreased) but make sure you make quarterly 1040-EST payments in 2024. You have to either make the payments quarterly or pay it all up front in Q1. You can;t wait till Q3 or Q4 to pay otherwise you'll still get hit with penalty interest for the first 2 quarters.

The 1040-EST payment for Q2 deadline was just a few days ago. If you don't think you'll fall under the safe harbor exception, i recommend making a 1040-EST payment ASAP (by estimating your interest income and taxes for 2023) Thus, you will at least avoid the next 6-8 months of penalty interest.

Also, don't forget about state tax penalties as well. Similar rules exist for states.

My real world example- In 2021 i had a substantial amount of income after selling my business and a very large tax bill. In 2022, i started receiving large amount of interest income after rates went up. I did not submit any estimated tax payments b/c of ignorance. My wife continued her normal w2 withholding in 2022.

When it was time to file 2022 taxes, i realized that i could not use the safe harbor rule because i wasn't even close to paying the amount of taxes i did in 2021 since the only pre-payments made were from my wife's w2 withholding which were nowhere near the % needed for the safe harbor rule. Hence, i was hit with a large penalty(plus interest), for both federal and state on the extra interest income. Expensive lesson learned. Now i have been making quarterly 1040-EST payments and just did one last week.

Another example from a website:

Cherilyn is employed as a teacher and runs her own tutoring business as well. She didn't make any estimated tax payments during last year because she thought she had enough tax withheld from her teaching wages. Early in January this year, she estimated her total last year's tax and realized that her withholding was $2,000 less than the amount needed to avoid a penalty for underpayment of estimated tax. So on January 11 of this year, Cherilyn made an estimated tax payment of $2,000, the difference between her withholding and her estimate of her total tax. When she files her final return for last year, Cherilyn's total tax is $50 less than she originally figured, so she is due a refund from the IRS. However, Cherilyn will owe a penalty through January 11 of this year for her underpayments for the first three quarterly payment periods. She won't owe a penalty for the fourth quarter because she made a payment for the quarter by the January 15 due date.

DLandFan | Jun 17, 2023 | 4 posts since 2021

So if one generally wouldn’t have a tax liability of more than $1,000 but suddenly decided in December to make a large Roth conversion, one could make an estimated tax payment in January and that would suffice?

bobert456 | Jun 17, 2023 | 187 posts since 2022

I'm not a CPA, but here's my understanding. In general, IRS wants their tax witholdings uniformly during the year to cover the tax liability. If payroll tax withholdings are not enough, they want you to make quarterly payments. They normally expect this to be uniform amounts for each quarter. IF you have an unusual quarter (like a ROTH conversion), then you should cover that liability in that quarterly estimated tax withholding. BUT that will mean non-uniform quarters of estimated payments. That's can be OK, but IRS may require you to go through a MAJOR tax reporting form called the 2210, which basically checks each quarter payments with the income reported for that time period... as long as you have made the estimated withholding payment to match up with the quarter of the income, the form 2210 will account for it. BUT this 2210 is very confusing. I just did one with TURBOTAX because I had a large 4th quarter ROTH conversion that threw everything off. The 2210 checked that my uneven income, and corresponding uneven withholdings matched up, so all was OK with the IRS.

111 | Jun 17, 2023 | 672 posts since 2019

DLandFan - I believe bobert is correct, but another way to handle your scenario might be to increase the amount of your final RMD (it would be "final" only if you were converting the entire balance to a Roth, of course) to cover the additional tax caused by the conversion. Then, do the conversion of the remaining traditional IRA balance in December. Unlike estimated tax payments, taxes withheld from RMDs are treated by the IRS as being withheld throughout the entire tax year, not in any particular quarter. In that sense RMD withholding is similar to W2 withholding.

A downside of doing this is that it somewhat reduces the amount you can convert. But in some cases this might be preferable to dealing with extra tax forms, remembering to make estimated tax payments on January 15 or scrambling for funds for that payment.

me1004 | Jun 17, 2023 | 1,379 posts since 2010

Easiest way is to pay 1/4 of last years total income tax each quarter this year. Do that, you are covered, no penalty.

You otherwise can use the AI (Annualized Income Installment) method to calculate your taxes each quarter based on income through that quarter. But in your case, it sounds like that will only get you more owed.

Your withholding might already cover you based on last year's tax, if not, pay all due through June 15 now, to avoid any more penalty for underpayment so far.

John19 | Jun 17, 2023 | 395 posts since 2022

How is the penalty calculated? I see .5% per month and 7% interest. So if you missed the first quarterly the whole year it would be 13% or only the final quarterly 3.25%? But then you would earn interest by not paying them, so like 13%- 5.5%. 5.5% is taxed also though.

me1004 | Jun 17, 2023 | 1,379 posts since 2010

There is a calculation chart/"worksheet" (technically not a worksheet) in Form 2210, which you can get at the IRS Website. I expect you can get only the one for 2022. They would not even know now what the percentages are for the rest of the year. Publication 505 will have a lot of worksheets in it, and it will have the calculations page for using the AI method as well. The penalty percentage can vary during the year. You do not pay that now, it has not been assessed. Just pay all that should have been paid by June 15 now, that will stop any further accrual. That should be 50% of the total tax for last year, minus your withholding tax so far this year. The AI method is not beneficial unless your income is pretty uneven through the year, or even flat out lopsided (like mine).

I do alert, IRS has had a habit in the past about 6 years of just losing my Form 2210 every year, and so wrongly hitting me with a penalty. It takes me many filings all through the next year to correct them. No matter how many times I send in the form 2210, they keep responding with a letter that comes down to saying they can't help me if I don't send a form 2210 -- and they are sitting there holding it in ther hands. I have confirmed with IRS that it is right there on their computer but the people who need to process it just do not do it. This year I have my congressional rep on them and the IRS Taxpayer Advocate. The advocte flat out is refusing to see to it that whatever is broken at the IRS that they do this every year gets fixed.

choice1 | Jun 17, 2023 | 370 posts since 2023

Shame on you to have to give money to the IRS! Proper prior planning prevents p.ss poor performance …the famous 7 Ps. Chase rates not knowing/planning about the morning after! Tried most of the noted items with a tax rate substantially lower.

Suggest everyone (re)read my DA June 15 post (“CD Type Annuities …”) on WSJ article of same date converting to another tax shelter to partially solve your dilemma of the day.
PS How much income does one need? Amount to pay expenses. Lower your expenses

milty | Jun 17, 2023 | 1,672 posts since 2018

Estimate your total taxable income and then use the 1040 Estimated Tax worksheet to determine your quarterly payments, if any. Or you could do nothing, ignore the penalty, and wait for the bill.
Of course, depending on your age, there's also IRMAA to worry about.

Rightdx | Jun 17, 2023 | 43 posts since 2022

I put the question to Chat GPT and this is what she said:

I am making more money in interest this year than usual and am worried about having to pay a penalty for underpayment to the IRS. Can you explain the rules for me and how to avoid an underpayment penalty?
ChatGPT
I can certainly help you understand the rules and how to avoid an underpayment penalty when it comes to taxes in the United States. Please keep in mind that while I strive to provide accurate and up-to-date information, it's always a good idea to consult a tax professional or refer to official IRS guidelines for your specific situation. With that said, let's go over the basics.

Estimated Tax Payments: To avoid an underpayment penalty, the IRS expects taxpayers to pay their taxes throughout the year rather than in a lump sum during the tax filing season. Most people meet this requirement through either income tax withholding from their paychecks or by making quarterly estimated tax payments.

Safe Harbor Rule: The IRS has a "safe harbor" rule, which means you won't face an underpayment penalty if you meet certain criteria. There are two safe harbor provisions you can utilize:

a. 90% of Current Year's Tax: If you pay at least 90% of your current year's tax liability through withholding or estimated tax payments, you generally won't face an underpayment penalty.

b. 100% of Prior Year's Tax: If your adjusted gross income (AGI) was under $150,000 in the previous tax year, you can avoid a penalty by paying at least 100% of your prior year's tax liability. If your AGI was $150,000 or more, the threshold increases to 110% of the prior year's tax liability.

Calculating Estimated Tax Payments: If your income fluctuates throughout the year or you have multiple income sources, estimating your tax payments can be a bit more complex. To calculate the appropriate amount, you can either:

a. Use the Annualized Income Installment Method: This method allows you to calculate your estimated tax payments based on your actual income, deductions, and credits earned throughout the year. This helps avoid penalties if you earn more in later quarters.

b. Use the Worksheet and Form 1040-ES: The IRS provides worksheets and Form 1040-ES to assist in calculating estimated tax payments. These documents help you determine the required amount based on your income, deductions, and credits.

Timely Payment: It's essential to make your estimated tax payments or have enough tax withheld from your income throughout the year. Missing the payment deadlines may result in penalties, even if you ultimately pay the correct amount when you file your tax return.

Remember, the information provided here is a general overview, and your specific circumstances may require additional considerations. It's always advisable to consult a tax professional to ensure compliance with the latest IRS regulations and to get personalized advice based on your situation.

Ally6770 | Jun 19, 2023 | 4,292 posts since 2010

I do what is not recommended and have maximum federal taxes taken out of my SS check. I have always had 25% takes out after the medicare deduction. 25% of the pension deducted and zero out of the RMD. I do a Roth conversion also. I have always had a refund. But I have more interest this year but that also means less in a Roth conversion so income taxes should be about the same. This year in July I will estimate my income with the higher interest rates and change the federal tax taken out in the pension if needed. We can take a fixed amount. So I can add a fixed amount to what is taken out. I do not send in the quarterly checks or do any computations except in July to add up the income and then double it and compare it to the year before. Less stress bookwork and takes a few minutes one time a year.

me1004 | Jun 20, 2023 | 1,379 posts since 2010

You really don't need to make it all that complicated. The IRS doesn't. All you need to do is pay 25% of last year's total tax each quarter. So, set the withholding from those places to be that 25%. That number does not vary of the course of this year. It doesn't matter if your income this year is much higher. You will settle that difference next April, and it will not case an underpayment.

happyharold4 | Jun 21, 2023 | 388 posts since 2022

Because many of us have CD's maturing at different time frames it makes it a bit difficult to figure the Interest Income. That is because some FI's report to the IRS on accrued interest and others don't report until the year the CD matures---How do you folks figure all this out with so much activity this year?----I'm in some deep doo doo, as last year I had a huge tax amount due to the sale of property and never paid any quarterly est/tax and this year haven't paid any as yet also. To be honest I have never paid Est/Tax.

Ltssharon | Jun 22, 2023 | 471 posts since 2020

The short answer is I do the calculations. For example, if I have a CD that is 60,000 dollars, at 4 percent apy, and I own it for 7 months of the year, I do some math. 60,000 times.04 = 2,400 if I had it for a whole year. However, I have it for 7/12 of a year, so I do the math: 2,400 times (7 divided by 12) . 2,400 x .5833 equals 1,400 dollars interest earned for that 7 months. I do that for each cd. It doesn't take long after you make a list of all your cds and all their months held, and their apys. This will give you a good idea of what your 1099s will be for that cd.

So now you will ask, if a cd matures in may, sure, I know that I just pretend I held it for 5 months during the year. How do I predict what that sum of money will earn for the rest of the year? GUESS the APY you will get, and pretend that lump of money is invested in a cd for the rest of the year which is 7 months. But don't ignore that it will be earning money. You KNOW what your social security income will be. If you are lucky, you KNOW what your earned work income will be. Oh, by the way, this year I have already paid 13,000 in early withdrawal penalties, so I know that will be subtracted (not deducted, but the more advantageous word: subtracted off the top).

Ltssharon | Jun 22, 2023 | 471 posts since 2020

Well, sadly I have needed to pay penalties when my quarterly estimated payments were not high enough.

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