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Posted by Katie on June 18, 2006, 11:29 pm
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nomail1983@hotmail.com wrote:
> This is the first time in 35 years that I am making
> estimated tax payments instead of simply relying on
> withholding. Based on my (perhaps faulty) assessment of the
> situation, it appears that I cannot avoid underpayment
> penalties when I file next year.
>
> Am I overlooking or misunderstanding something?
>
> During the first payment period, my taxable income, ergo my
> est tax, was very low. In the second period, I had a
> windfall due to exercising employee stock options (wage
> income subject to withholding) and liquidating a large
> amount of stock (capital gain; no withholding). The
> second-period taxable income is 10 times the first period's.
> But the withheld taxes are sufficient to cover my total
> expected year-end tax liability, let alone the minimum
> payment for the period.
>
> The problem seems to be with the very low first-period
> payment. When I look at Form 2210, I do not meet the
> safe-harbor conditions in Part I. I do not qualify for the
> Short Method in Part II. If I use the Regular Method (Part
> IV), the first required installment is about 25% of the
> total tax liability -- far more than I actually paid due to
> the very low first-period taxable income. If I use the
> Annualized Income Method (Sched AI), my actual second-period
> payment is substantially less than the computed required
> payment because the method would have me multiply the
> one-time by 2.4, as if I expect the windfall to continue for
> the remainder of the year. (Not!)
>
> So both methods seem to result in a substantial underpayment
> penalty. And yet I believe I paid prepaid the taxes in a
> timely manner, having paid the full amount of taxes (and
> more!) due to the windfall as well as covering my normal
> expected taxable income.
>
> Am I misunderstanding Form 2210?
>
> Do I have any other recourse to avoid the "underpayment"
> penalty?
>
> According to Form 2210 instructions, there is a procedure
> for requesting a waiver of penalty. But based on my
> (perhaps faulty) interpretation, I do now qualify. Although
> I retired in 2005, I am not yet age 62; nor am I disabled.
> The penalty could be waived due to "unusual circumstances".
> But the examples are casualty and disaster. I do not know
> if "windfall" would qualify ;-).
>
> Do I misunderstand the waiver and its (in)applicability to
> me?
>
> If any tax professionals in this forum have experience with
> similar situations (I would think it is not so uncommon), I
> would appreciate any guidance in understanding how I might
> (legally) avoid the underpayment penalty, given that I
> believe I have indeed followed the "pay as you go"
> principle. (That is, I am not attempting any kind of
> tax-avoidance scheme whatsoever.)
If your withholding (including the withholding on the
options) covers your entire tax liability for the year, you
will have no underpayment penalty. Withholding is treated
as if it had been paid evenly over the year, regardless of
when it was actually paid.
Katie in San Diego
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