#15: HOW TO STAY ON TRACK WITH ESTIMATED TAX

In this episode of Financially Adjusted, I dive into the world of estimated taxes for small business owners. Everyone’s favorite topic. 😉 Learn how to avoid the dreaded surprise tax bill and implement a foolproof system to track and save for taxes throughout the year. We’ll break down what you need to know about saving for estimated taxes based on your net profit, how quarterly estimated tax payments work, when they’re due, and tips for setting up an efficient tracking system. Don’t forget to grab our free estimated tax tracking guide and if you want the done-for-you approach, you can purchase my tax tracking template. See the links below!

FREE GUIDE: www.financiallyadjusted.com/estimatedtaxguide

TAX TRACKING TEMPLATE: https://www.financiallyadjusted.com/store

IRS link referenced in today’s episode: https://www.irs.gov/businesses/small-businesses-self-employed/estimated-taxes

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Transcript

Hey there, my entrepreneurial friend. Thanks for joining me today. The fact that you're showing up to listen to this podcast tells me that you are the type of business owner who wants to take control of their finances and who isn't afraid to invest time in learning so you can improve your business. You are very impressive to me and you're exactly the person I'm inspired to help. I absolutely love small business owners and the type of driven people that you are. But something that makes me sad is when I see entrepreneurs doing well in business and making great money then owing a bunch of money at tax time and being surprised by it. It can be one of the most frustrating and deflating things to experience as a business owner. However, it does not have to be this way and I'm here to help you avoid this and plan properly.

So, if you happen to hear a whining little dog in the background It's my poor little Gus. He is not happy about the rain that's going on so you might hear that throughout the podcast. Sorry about that. 

But I have to preface this episode by saying that I am not a tax professional, and this is not tax advice. What I intend to bring you is information that can help you understand estimated taxes better and to implement a system in your own business to track your estimated tax with real time numbers so that you're saving properly and staying organized with your taxes and avoiding any big surprises at tax time.

First, we are gonna talk about how estimated taxes work and then I'll get in to how to create a system in your business to track and save for your taxes. I have a freebie I also made for you for today's podcast. It's a guide that’s going to lay out the information I am discussing today and can actually act as a handy resource for you to refer back to when it comes to setting up your system for tracking taxes. You'll find the link in the show notes but it's just going to be financiallyadjusted.com/estimatedtaxguide. You can also simply go to financialadjusted.com and click on the ‘free resources’ tab at the top and then you'll see that as an option. If you're interested in the done-for-you approach to this, I do have a template that will be available for purchase and all you have to do is plug in your own numbers each month. And you can also find this on my website under courses and I'll link in the show notes as well. I'm in the process of creating that so it should definitely be available for you by the time am done with this podcast. 

Well let's get into to how estimated taxes work first. I'll start by clearing up exactly what you pay taxes on because I think this is a point of frustration or confusion, I should say, for most business owners. A lot of people tend to think that it's you’re taxed on the money that you've taken from your business but that is not the case. You owe taxes on net profit. Whether you took that money personally or not, you still owe taxes on it. It's a very common misconception that you just pay on what you've taken home, but just remember that as like the big takeaway for this episode that you owe taxes on your net profit which is the number that results from subtracting expenses from your revenue. Now if you're fuzzy on a profit and loss statement, what it’s made up of and how to navigate that, you can go back and listen to episode eleven which breaks down how to understand it.

You can also listen to episode twelve which talks about breaking down how to understand a balance sheet. And I encourage you to plug into this information because understanding statements is one of the most important skills that you can have as a business owner.

The reason paying estimated taxes is a thing is because the IRS wants to collect income tax that's owed to them throughout the year and not just at tax time. When you're a W2 employee or you work for somebody else and get a paycheck, this is automatically done for you through your check so you don't have to worry about it. But with a business you pay an estimate of what these taxes are each quarter. I'll get into the payment due dates in just a bit but first I want to mention a few other things about estimated tax. The IRS website is a pretty valuable source of information when it comes to getting the facts and I'm going to drop a link in the show notes for reference, but I'm looking at the IRS webpage that's all about small business estimated taxes.

We'll start with who has to pay estimated taxes. It's stated that individuals including sole proprietor’s, partners, and S Corporation shareholders generally have to make estimated payments. If they expect to owe tax of $1,000 or more when their return is filed. So, if you're a person operating a business under your Social Security number as an LLC, or as an LLC taxed as an S corporation, then you likely have to pay estimated taxes throughout the year in order to avoid penalties and interest. The exception to this is if you're in your first year of business. You want to make sure you're still saving for your taxes, but the IRS Probably won't require you to send in estimated tax until your second year in business.

And that takes me to the next section of the IRS webpage that talks about that. It's titled who does not have to pay estimated taxes. It says you don't have to pay estimated tax for the current year if you meet all three of the following conditions. You had no tax liability for the prior year, you are a US citizen or resident alien for the whole year, and your prior tax year covered a twelve-month period. So, when you're starting a new business you always want to find good tax professional to work with who can guide you on the proper entity structure for your business and give advice when it comes to paying your estimated taxes.

Moving past first year in business, a good tax pro should be able to give you estimated payments that take into consideration your tax situation specifically and your prior year in business and what's projected for your next year in business. So as soon as you open your business you really need to be finding a good tax professional who you can consult with on all things tax when it comes to your business and getting set up. And towards the bottom of the IRS webpage, penalties are discussed and it says ‘generally, most taxpayers will avoid the penalty if they owe less than one thousand dollars in tax after subtracting their withholding and credits or if they paid at least ninety percent of the tax for the current year or one hundred percent of the tax shown on the return for the prior year, whichever is smaller’. So, your tax pro is going to take all of this into account. The idea is to get as close as you can to paying the tax you owe but not overpaying. So basically, it's saying that you can avoid penalties if you pay one hundred percent of what you owed on your tax return the prior year or if you owe or if you pay ninety percent of your current year taxes that are owed. So if you pay ninety percent of your net profit, you'd be in pretty good shape, but most times I think tax professionals will set you up with estimated payments based on what your tax was the prior year and also taking into consideration if you expect growth and what you would anticipate your net profit being for the current year. But definitely discuss that with your tax professional and see what would be best for you based on your situation. 

And also, throughout the year you should be discussing things with your tax professional. It's always a good idea to focus on finding a tax professional who doesn't just keep you compliant with your taxes and doesn't just file taxes for you once a year but someone that is approachable that you can ask for tax advice and who will consult with you at least once or twice throughout the year to make sure you're making the right money moves when it comes to tax strategies throughout the year and for your specific business situation.

But the idea with tax says is you don't want to overpay because then you're just lending your money to the IRS interest free throughout the year when it could be working for you and you don't want to really underpay because then you're going to be stuck with some penalties and interest potentially. Where I see some business owners getting into trouble and having a big tax bill at the end of the year is when they pay in their estimated taxes based on what the they owed the prior year, but they've hit a time of growth in their business. If you're paying the prior year's tax amount and you're compliant with your taxes, that's great. However, if you're growing a lot and you will likely owe a lot more than you did the prior year you have a higher net profit, then you put could potentially end up owing quite a bit more money than what you're sending in an estimated taxes. So, this is what we want to avoid. And what you want to do to avoid this is make sure even if you're not sending in estimated taxes but on the growth that you've hit in the current year that you are saving for that higher amount in taxes that you could potentially owe. My goal is to help you track and save for your estimated taxes based on your actual net profit throughout the year so that you can make sure you have the proper amount saved and earmarked for the tax that you'll owe and avoid any huge tax bills without being prepared or having anything saved. If you save 25-30% of your net profit each month, this should give you plenty of money to pay your taxes. And again, you can talk with your tax pro for direct advice on your specific situation because they may advise more of like 30-35% percent tax savings based on your specific situation. Even if you have more saved in taxes than what you'll owe, that's okay. Worst case scenario, you have a surplus at tax time. Because you don't owe as much, and you keep that in your tax account for savings for the following year or you can decide to take that home as a distribution or put it towards something else in your business. But better to have more than enough saved than not enough.

If for some reason you didn't grow and things went the other way for you, you could be paying more in estimated taxes than what really need to. And so that's another reason why it's good to track your actual net profit. And based on that those real time numbers. So, if you pay what your tax professional advised you to pay in tax payments for the first three quarters of the year and then at the end of the year you realize you'll be paying too much with that fourth quarter payment, you can talk to them and see if it makes sense for you to just skip sending in that last payment or make it be less so that it more so lines up with your current year. That way you're not sending more than you really need to the IRS.

Alright, we have discussed a lot so far and your head might be spinning, especially if you're new to the world of business and estimated taxes. I mean this stuff takes time to sink in if you're not used to thinking about estimated taxes and net profit, so just have patience with yourself. Know that you're capable of learning it. It just takes some time and patience, and it's not exactly the fun side business for most people.

If you're a total nerd like me, maybe it is but most of you cringe a little bit with stuff like this and that's totally normal. Stick with me here and remember that you can grab my free guide to help you and use that as a reference. My goal is to simplify this and put tax savings and tracking on your radar so that future you doesn't end the year with a giant tax bill or start the year rather with a giant tax bill and no money to pay it.

We talked about the quarterly frequency of tax payments but you might be wondering about the dates for those quarters. Normally in business we would consider quarters to be Quarter one January through March quarter two April through June. Quarter three July through September and then quarter four October through December. And this is correct. However, when it comes to quarterly tax payments the IRS decided to mix it up a little bit Because you know, it's a government and they decide to complicate things most times. But actually I read that it they changed this sometime in the sixties in order to align the payments more with the government's fiscal year which is October first through September thirtieth so the estimated tax due dates for the IRS payments are as follows. And this would also include state as well as federal. Quarter one is going to be due April fifteenth. And that is for January through March. Quarter two is due June fifteenth which is April and May. Quarter three is due September fifteenth and is for June through August And finally quarter four is due in January fifteenth, and that accounts for September through December. Now if that date of the fifteenth ever falls on a holiday or a weekend it's the following business day that would be the due date.

Sorry You probably hear my dog back there. He's pretty upset. He becomes inconsolable when it rains and sometimes and he’ll let me hold him and squeeze him and thunder jackets and all the things you would think would work don't work with him because he's too smart but he'll get through it.

For purposes of tax tracking, I break up the quarters the way they're due to the government. So, when you are tracking your taxes based on your actual net profit, you want to make sure you're breaking it down based on those due dates April…September, sorry. April June, September, and January. So, if you are sending in your estimated tax payments based on your net profit your actual net profit then you want to make sure you're obtaining an accurate P & L in a timely manner at the end of each quarter so that you have your net profit figure and you can calculate your estimated tax in time. 

So, the way that I recommend tracking tax is in a spreadsheet. And you can do whatever way works for you, but I highly recommend a spreadsheet because then you can set up a formula if you do it this way. So that all you have to do is plug in your net profit and have it automatically calculate what you want to save based on that net profit. So, If you're saving 25%, 30%, or 35% of your net profit, you just have that calculated automatically and you can also track the estimated payments as you send them in. So, you want to make that part of your spreadsheet. You can plug in the date, the payment method, how much it was, and if you have a special savings account for taxes, you can also track the balance of that savings account in the spreadsheet as well. Just so you have all the current up to date running total of everything right there in the spreadsheet. You can also enter in what your rates are for state and federal income tax Most states it's pretty set. Like if you have an income tax rate for Pennsylvania, I think 3.07%... that might be going down next year but each state if you have an income tax will usually be just a flat rate but federal is where it's fluctuating. 

And you also want to make sure you're saving for local. Typically if you're an LLC or a sole proprietor, sole proprietor meaning you just are operating your business under your social security number, you'll owe higher taxes on your bottom line or your net profit because you'll owe self-employment tax and local taxes on this amount. If you're an LLC being taxed as an S-corp, you won't need to pay self-employment or local taxes. Just state and federal, but again, you can get more specific advice from your tax professional based on your state and your specific situation as a business owner, but having all this information at your fingertips will make it easy for you to know what's going on with your taxes and also share information with any professionals that are helping you. Your tax professional will want to know what amounts you sent in for estimated payments at tax time, so it'll be quick and efficient to have this info at tax time in your trusty spreadsheet. And if you have it in a Google spreadsheet you could even share that with your tax professional so they have all the information as well.

But when it comes to the payment method, you can send a check by mail, which is what a lot of people do and that's totally fine. The IRS and your state just require that to be postmarked by the appropriate due date. Or you can also pay electronically via the IRS website or state website. I prefer doing this because I easily track my payments and see if they've gone through a lot quicker than if sent them in the mail, but that's totally up to you. Either way works. Even if you don't pay online you can sign up for logins through the IRS and through your state. Usually, it's the Department of Revenue for your state. That way you can still view all your payments, view returns, and you can print out a screenshot for your tax professional of all the estimated payments you made to give them proof at tax time.

So, I know this was a lot of information today. Thanks for sticking it out and striving to better yourself in this area of your business. Be sure to grab the free estimated tax tracking guide and if you want the done for you spreadsheet template, you can find that on my website also. Just go to financiallyadjusted.com or check the show notes for any links that were mentioned in today's episode. But you can listen to this podcast a couple more times as well. And just be patient with yourself. This is the kind of information that's tedious, and most people will avoid it because it's not the fun part of business. But if you can get a grasp of how estimated taxes is work in your business and get used to thinking of saving for taxes throughout the year and creating that habit and tracking them, it is going to feel so much less stressful as a business owner and then you can approach tax time not with that anxiety and panic of ‘oh my I hope I don't owe anything’. You already have a really solid idea of what the state of your taxes are and what you've paid in and what you might owe. And you'll have that saved. So, it's a win-win.

Have a great day my friend and remember progress over perfection.