Step-by-step · 3 min read
Withholding and estimated taxes
The IRS expects tax to be paid through the year, not all at once in April. When RSUs, option exercises or business income are under-withheld, an underpayment penalty can apply even if you pay everything by the deadline.
The safe harbor rules give you a clear target. Meet it, and there is no penalty, even if you still owe a balance in April.
- Who it fits
- Anyone with equity, bonuses, side income or a business where withholding falls short.
- Figures
- 2026 tax year
The key rule
You avoid the federal penalty if withholding plus estimates cover 100% of last year's tax, or 110% if last year's adjusted gross income was over $150,000, or 90% of this year's tax.
How it works
Withholding from paychecks counts as if it were paid evenly through the year, no matter when it actually happened. Estimated payments count on the date you make them. That is why extra withholding late in the year can fix a shortfall from earlier months, while a late estimated payment cannot.
If your income came mostly late in the year, for example a big December vest or sale, the annualized income method can reduce or remove a penalty. We apply it when it helps.
6 steps
Find last year’s total tax
It is on line 24 of last year's Form 1040. Multiply it by 110% if your adjusted gross income was over $150,000 ($75,000 if married filing separately). That is your federal safe harbor target.
Add up this year’s withholding
Check your latest pay stub for federal tax withheld to date, then estimate the rest of the year, including withholding on vests and bonuses.
Cover the difference
Pay any shortfall through extra W-4 withholding or quarterly estimates. Spread estimates evenly across the four dates.
Pay online
Use IRS Direct Pay, the Electronic Federal Tax Payment System or your IRS online account. Choose "estimated tax" and the correct year.
Do the same for your state
Most states have their own estimates and safe harbor. California, for example, expects 30% in April, 40% in June and 30% the following January, and does not allow the prior-year safe harbor once income reaches $1 million.
Set the balance aside
Meeting the safe harbor avoids the penalty, not the tax. Keep the expected balance in savings until April.
Example
Using the safe harbor
Last year your total tax was $80,000 and your AGI was over $150,000. Your target is $88,000. Withholding this year will reach $70,000, so you pay $18,000 in estimates, or add it to your remaining paychecks. Even if this year's tax is $110,000, there is no penalty; you owe $22,000 in April.
Common mistakes
- Paying all four estimates in January. Payments count when made, so earlier quarters still show a shortfall.
- Forgetting state estimates.
- Using last year's tax as the target in a year your income falls a lot. Then 90% of this year's tax may be lower.
Key dates
- April 15
- First quarter estimate.
- June 15
- Second quarter estimate.
- September 15
- Third quarter estimate.
- January 15
- Fourth quarter estimate.
Questions we hear
How big is the penalty?
It works like interest on the shortfall for each quarter, at the IRS underpayment rate. It is often smaller than people fear, but it is easy to avoid.
What to send us
- Your latest pay stub
- Any estimated payments made this year
- Expected bonuses, vests or sales
Upload them to your client portal.
General education for TaxSquad clients, not advice for your situation. Rules and figures change. Talk to us before acting on this guide.