The penalty imposed by the IRS for tax underpayments has almost tripled since 2021, significantly increasing the financial risk for gig economy workers and consultants who may find themselves having to pay substantial amounts to the government. Starting from October 1, the IRS has raised the interest rate on estimated tax underpayments to 8%, a significant jump from the 3% rate just two years ago, as reported by The Wall Street Journal.
Since 2021, the penalty for not paying enough tax has increased dramatically, posing a greater financial challenge for those in the gig economy and consulting roles who might end up owing large sums to the government. As of October 1, the interest rate for not paying enough estimated tax has gone up to 8%, a considerable rise from the 3% rate seen two years prior.
IRS tax penalties strategies for freelancers and employees to avoid increased charges
These penalties primarily impact those who work on a freelance basis and don’t have taxes withheld, targeting individuals who don’t make the necessary quarterly estimated tax payments before the April tax filing deadline. People with taxes withheld automatically are not exempt from these increased penalties if they don’t correctly calculate and pay taxes on additional earnings, such as unexpected dividends.
Karla Dennis, a certified tax professional in La Palma, California, warns that altering withholdings to boost weekly take-home pay could lead to complications and possible penalties. Dennis explains, “It triggers a chain reaction: setting up a payment plan, creating a budget to avoid repeating the issue.”
This rise in penalties comes after the IRS collected $1.8 billion in underpayment penalties from approximately 12.2 million Americans in fiscal 2022, as noted by the newspaper.
To sidestep these penalties, individuals should aim to pay at least 90% of their tax bill before filing or keep the difference below $1,000—whichever is greater, as advised by the IRS. Those who manage to pay the full amount of their previous year’s tax bill can evade these penalties. However, this threshold increases to 110% for people earning over $150,000 or married individuals filing separately who earn at least $75,000.
With the year-end looming, financial experts like Joseph Doerrer, a CPA and financial planner at Mezzasalma CPAs in Tinton Falls, NJ, stress the need for individuals to reassess their financial status. “This is a reminder for individuals as we near year-end. Are your finances in order?” he shared with the Journal.
The relevance of this advice is highlighted by the case of Sameet Durg, a marketing executive from Warren, NJ, who personally experienced these penalties. Durg faced a significant underpayment penalty on top of a large tax bill because he didn’t make any estimated payments. Now a client of Doerrer, Durg remarks, “I’m vigilant about my taxes throughout the year. I want to avoid a major financial hit in April.” His experience serves as a caution about the consequences of not being attentive to tax obligations year-round.