Your first year of freelancing probably felt liberating. No boss, no commute, just you and your laptop making things happen. Then tax season rolled around and you got hit with a bill that made your stomach drop. Welcome to the world of estimated taxes, where the IRS expects you to pay as you go instead of settling up once a year.
The IRS Wants Their Money Quarterly
Here's the basic deal. The federal government collects taxes throughout the year, not just in April. As a freelancer, you're supposed to make payments directly to the IRS four times a year.
These quarterly deadlines fall in mid-April, mid-June, mid-September, and mid-January. You’ll want to mark these dates because missing them costs money.
The payment covers both your income tax and your self-employment tax. That self-employment tax is the killer that surprises most people. It's basically the Social Security and Medicare taxes that used to get split between you and your employer. Now you're paying both halves yourself, which comes out to 15.3% right off the top before you even get to regular income tax.
Figuring Out How Much to Pay
Calculating your estimated payments isn't exactly fun, but it's not impossible either. The IRS wants you to pay either 90% of what you'll owe for the current year or 100% of what you owed last year, whichever is smaller. If your income was pretty high last year, that percentage jumps to 110%.
Most freelancers use last year's tax bill as their starting point because it's simpler. Take what you owed last year, divide by four, and send that amount each quarter. This keeps you safe from penalties even if you end up making more money this year. You'll just owe the difference when you file your return.
If this is your first year freelancing, you don't have a previous year to reference. You'll need to estimate what you think you'll make and calculate from there. It’s usually best to overestimate rather than underestimate. Better to get a refund than owe a bunch at tax time plus penalties.
Your state probably wants estimated payments too. Some states piggyback on the federal deadlines while others do their own thing. Check your state's revenue department website or ask a tax professional what applies to you.
What Happens If You Skip Payments
The IRS charges an underpayment penalty when you don't pay enough throughout the year. It's not technically a penalty but interest on the amount you should've paid earlier. The rate changes quarterly based on the federal short-term rate plus 3%.
These penalties aren't huge, but they're annoying. If you owe $3,000 at tax time and should've been making quarterly payments, you might face a penalty of $100 to $200 depending on the interest rates that year. Not devastating, but not money you want to throw away either.
Some freelancers decide to just skip estimated taxes and eat the penalty. They'd rather keep their cash flow intact during the year. If you have a really good year and owe $15,000 instead of $3,000, that penalty suddenly hurts a lot more.
Keeping Track of Income Throughout the Year
The toughest part of estimated taxes is that your income probably bounces around. Some months you're swimming in client work. Other months are dead quiet. It’s okay to guesstimate. Make your best guess based on the clients you have lined up and what you earned in similar months before. If you land a huge project mid-year that's going to push your income way up, increase your next estimated payment to compensate.
The IRS does let you adjust your payments each quarter if your income changes significantly. You're not locked into paying the same amount all four times. A lot of freelancers pay more in quarters when they had good income and less in slower quarters.
Keeping decent records helps enormously here. You don't need fancy accounting software, but you should track what's coming in each month. A simple spreadsheet works fine. When you can see your income trends, estimating taxes gets easier.
Deductions Make a Real Difference
Don't forget that you're paying estimated taxes on your profit, not your gross income. Every legitimate business expense reduces what you owe. Home office deduction, equipment, software subscriptions, professional development, health insurance if you're self-employed... all of that comes off your taxable income.
A lot of new freelancers overpay their estimated taxes because they calculate based on gross income and forget about deductions. Keep receipts and track expenses as you go. When you sit down to figure out your quarterly payment, you'll have a realistic picture of your actual profit.
Some expenses are easy to forget. Mileage for business trips, client meals, that professional conference you attended, the portion of your internet bill used for work. They add up faster than you'd think.
Setting Money Aside Is Crucial
Here's what works for a lot of freelancers. When client payments hit your account, immediately move 25% to 30% into a separate savings account labeled "taxes." Don't touch that money except to make your quarterly payments.
This system prevents the painful scenario where you owe $5,000 in estimated taxes and have to scramble to find the money. The tax burden feels less harsh when you've been setting money aside all along. It's already gone in your mind.
The exact percentage depends on your tax bracket and deductions. A CPA can help you dial in the right number for your situation.
Let Your CPA Do the Work
Estimated taxes confuse even experienced freelancers. The rules have exceptions, special circumstances, and enough complexity that DIY-ing it can lead to mistakes, which is why you need a CPA.
They can also set you up with a payment plan that matches your actual income pattern instead of forcing you into four equal payments. Some months it makes sense to pay more, others less.
Your tax situation gets more complicated as your freelance income grows. At some point, trying to handle everything yourself stops making financial sense, and it’s time to call in your CPA for assistance.
by Kate Supino