 Most of this information comes from the tax guide for small business, for individuals who use Schedule C, Publication 334, Tax Year 2022, you can find on the IRS website, irs.gov, irs.gov. Looking at the income tax formula, we're focused online, one, that being income. Remember, in the first half of the income tax formula is an essence and income statement, although it's just the outline, the scaffolding, other forms and schedules feeding into it. When we think about line one, we're focused primarily on the Schedule C, another schedule, which is in essence an income statement for a business, having income minus expenses, which we can think of as business deductions, getting to the net income that flows into this top line of our income tax formula. This is the first page of the 1040, we're focused on line eight, the Schedule C flows to the Schedule One, which flows to the first page of the 1040 here. Here is the Schedule C, which in essence is an income statement with income and expenses. How do I pay income tax? We're thinking about this question from the perspective of a small business owner, one that reports on a Schedule C. Federal income tax is a pay as you go tax, you must pay it as you earn or receive income during the year. Although most people have probably heard this and are probably paying on a pay as you go system, I don't think this concept really sinks in for many people. And when people move from a W-2 type of employee situation to their own business, they are often shocked and don't fully understand this concept in my experience. So let's take a step back here and think about the big picture. We have an income tax type of system, that means we're gonna be taxed when we generate income. The federal government has incentive to kind of have oversight on the tax that we are paying. One way they can do that is to try to be more intrusive and get information about the tax that is being paid. That means that the federal government has leverage over the payer in a transaction. If you have an employee-employer situation, the government has leverage on the employee-er, the one that is paying, because they're the one that wants the tax deduction. So they're gonna force the employee-er to act as their tax collector. That means that they're not only reporting to the government your wages, W-2 wages, they're also actually taking the money from you before you receive it with holdings and giving it to the government. Now, the government would want that to happen during the year as the year goes through because what they don't want to have happened is that you file the tax return by April 15th of the following year and then you have this big tax bill that in essence, you can't pay at that point. So if the government wants to get paid, it makes sense for them to want to get paid during the year. At each paycheck, you give a piece to the government. That means that they're more likely to receive their money than if they waited till the end of the year and then you give them all of the money at one point in time. So the problem with this kind of system is that we don't have an easy tax system. If we had just a flat tax type of system, that would be very easy to do. And you can see that in the payroll taxes, which are more simplified, flatter type of taxes. We could just say, okay, it's 15%, it's 10% and in whatever our pay is, we multiply it by 15 or 10% or whatever and we pay that to the government as we go. But we don't have a flat tax. We have a progressive tax that's combined with a whole lot of deductions and a whole lot of other complexities and credits and whatnot. That means trying to understand how much I should pay out of a single paycheck when I think about how much I'm gonna earn for the entire year is quite difficult. So that's why we have the W-4 form and we try to figure it out. And the goal is to shoot for a refund. We shoot for a refund, not because we wanna have just money to spend during that time, like it's a holiday when tax season comes, but because we're trying to avoid penalties and interest by underpaying. If we underpay, then the IRS is gonna hit us not only with the tax we owe, but also with the penalties and interest. That's what we're trying to avoid. That's why the tax tables are set up to overpay a bit because the complexity of the tax code isn't perfect and we can't hit the target exactly. So when people move from a W-2 type of system, when they're forced to do that pay-as-you-go type of system and then they move to a Schedule C type of system, now they don't have anybody that's forced to act as the tax collector and people often don't do the projections to figure out what their taxes are gonna be for the Schedule C type of business and they get behind on their taxes. Now there's a few reasons for this. Sometimes people think, hey, that pay-as-you-go thing, the IRS actually kinda advertises oftentimes like the pay-as-you-go system is a system that they're trying to help you out. We're trying to help you out by having you pay at every paycheck so that you don't end up paying at the end of the year. It's just something to help you out and we're gonna force the withholdings to happen during that time period but that's not exactly the rationale for it. The IRS wants their money sooner because of one, the time value of money and two, they're more likely to get paid if they take a piece of your pay at each paycheck or at each interval rather than periodically at the end of the year. So it's not a voluntary thing and it's not like they're trying to help you out really. They're trying to make sure that they get paid and they're trying to maximize how much they get paid. So it's not an optional thing. If you go to a sole proprietor type of business, you still have to pay them as you go. The other problem is of course, I don't know how much income I'm gonna make. It's a new business. Even if it's not a new business, my income could fluctuate wildly from year to year. So how can I figure out how much I owe when I have a progressive tax system and I don't have no idea how much I'm gonna earn at the end of the year? That's a problem. You gotta make a projection for it and you've gotta try to figure it out. It's a lot more difficult to figure that out than if you had a W-2 salary situation where you know how much you're gonna make. If I know I'm gonna make 60,000 this year, then I can figure out my taxes a lot more easily than if I have my sole proprietor business and I have no idea how much I'm gonna make, but I still need to make my estimated tax payments. And I can't just say, well look, I earned 20,000 in the first quarter, so I'm gonna pay a tax rate based on 20,000. No, you're gonna have to pay a progressive tax rate. That means you have to project out how much you made for the year and then figure out how much you would owe based on that projected number in order to get it accurately.