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IRS Waives The Underpayment Penalty for Certain Taxpayers With Insufficient Estimated Tax Payments and Withholding for 2018

January 21, 2019

By Joseph Jankoski

The IRS announced on January 16, 2019 that it would waive the underpayment penalty for those taxpayers whose 2018 federal income tax withholding, quarterly estimated tax payments, or a combination of the two, were at least 85% of their 2018 tax liability.

Taxpayers are required to have the sum of their quarterly estimated tax payments and federal income tax withholding equal the lesser of 100% of their 2017 tax or 90% of their 2018 tax to avoid having an underpayment penalty assessed on the shortfall. If the taxpayer’s 2017 adjusted gross income (AGI) was greater than $150,000, or $75,000 if married filing separately (MFS), then the percentage of 2017 tax increases from 100% to 110%.

The IRS issued an updated withholding calculator and a new Form W-4 in early 2018 to account for changes enacted by the Tax Cuts and Jobs Act (TCJA). Even with the updated calculator and form, some taxpayers may have been unable to accurately calculate the amount of their required estimated tax payments for the 2018 tax year. Accordingly, the IRS has provided relief by reducing the required amount of estimated tax payments and withholding from 90% to 85%. For further information see Notice 2019-11.

Example

Case 1. John and Jane Smith filed a joint tax return for 2017 and intend to do so for 2018. Their 2017 adjusted gross income (AGI) was $175,000 and their total taxes were $50,000. For 2018, their projected tax is estimated to be $45,000 and their withholding and estimated payments total $39,000.

Safe Harbor Method Actual Tax Method
2017 Tax  $      50,000 Projected 2018 Tax  $      45,000
2017 Tax @ 110%          55,000 2018 Tax @ 85%          38,250
2018 Withholding + Estimates          39,000 2018 Withholding + Estimates          39,000
Percentage paid in by 01/15/19            64% Percentage paid in by 01/15/19           87%
Underpayment  $               –

Since the taxpayers have paid in 87% of their 2018 tax, they meet the reduced threshold of 85% and will not be subject to an underpayment of estimated tax penalty.

Case 2. Same facts as Case 1 except the taxpayers’ withholding and estimated payments total $33,000.

Safe Harbor Method Actual Tax Method
2017 Tax  $      50,000 Projected 2018 Tax  $      45,000
2017 Tax @ 110%          55,000 2018 Tax @ 85%          38,250
2018 Withholding + Estimates          33,000 2018 Withholding + Estimates          33,000
Percentage paid in by 01/15/19            60% Percentage paid in by 01/15/19            73%
Underpayment  $        7,500

The taxpayers did not meet the 85% threshold and did not pay in more than 110% of their 2017 tax liability.  Consequently, they will be subject to a penalty for underpayment of estimated taxes. It is important to note that even though the Internal Revenue Service has reduced the threshold for the calculation of the penalty for underpayment of estimated tax to 85%, if you do not meet the threshold, you will be assessed a penalty based on the underpayment of estimated tax to the original threshold rate of 90%. So, in Case 2, the penalty would be assessed on $7,500 ($40,500 [45,000 x 90%] – $33,000), rather than on $5,250 ($38,250 [45,000 x 85%] – $33,000).

Mazars Insight

The TCJA enacted many changes that impact the taxation of individuals.  Various forms of guidance such as Treasury Regulations, Proposed Treasury Regulations, Notices and Revenue Procedures have been promulgated since the enactment of the TCJA, but many questions remain unanswered. Notice 2019-11 recognizes the difficulties being encountered by many individuals and provides some relief from potential penalties.

Please contact your Mazars USA LLP professional for additional information.



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