What are Estimated Tax?

Estimated tax is an estimated amount that is paid periodically on ones earned income to cover the tax liability. Estimated tax is calculated for those income sources that are not directly subject to withholding taxes, such as dividend earnings, self-employment income, rental income, interest income, and capital gains etc.

How Do Estimated Taxes Work?

Federal and state government requires everyone to pay taxes on the income that they earn. For instance, employees of the company are subject to withholding taxes which are deducting directly from the salaries and based on a W-4 Form. Some people are not directly subject to withholding taxes, so they need to estimate the tax liability on their income and pay taxes to the federal and state governments. These people include self-employed individuals, investors who are earning dividends, interest income on financial instruments, or capital gains, and landlords who receive rental income. Unemployment compensation, retirement benefits, and part of social security benefits are other examples of income that require calculating estimated tax. Estimated taxes are often paid on quarterly basis. The installment payments become due on Apr 15, June 15 and Sep 15 of the current year and Jan 15 in the next year. Penalties may be imposed on individuals income if her estimated taxes are not equal to at least 90% of the actual taxes.