 Hello and welcome to the session. This is Professor Farhad and this session we would look at taxpayer penalties part 2 of 2 This topic is covered in an income tax course the CPA exam regulation section as well as the enrolled agent exam As always, I would like to remind my viewers to connect with me on LinkedIn if you haven't done so YouTube is where you would need to subscribe. I have 1,600 plus accounting, auditing, tax and finance lectures including hundreds of CPA questions Please like my lecture, share my lecture, put them in the playlist, let the world know about them If they're benefiting you, it means they might benefit other people as well. On my website farhadlectures.com You will have access to additional materials such as PowerPoint slides, true, false, multiple choice exercises, and if you're studying for your CPA exam 2000 plus CPA questions. So if you are serious about your CPA, please take a look Consider investing. It's a great investment in your career So we're talking about taxpayer penalties and we talked about different type of penalties in the prior session In this session, we're going to be looking at failure to pay estimated taxes This is the topic I'm going to be looking at We looked at the other major topic in the prior session and failure to pay estimated penalties is a heavily tested topic on the CPA exam So it's very important that you understand and I'm gonna work both for individuals and for corporation Which has the most common and individuals are tested more than corporation But you have to know both for the CPA exam now failure to pay estimated taxes. Who should worry about this? What's the big picture? Think about it. If you're an employee if you work for a company And that's all your income You don't really have to worry about paying estimated taxes because from your paycheck They may take money out of not not they might they will take money out of your paycheck You'll have to fill out a w4 when you start working and they will determine how much to take based on how you fill out the w4 So you don't have to worry about paying taxes now You could be an employee, but you could have other income such as interest dividend royalty rental You might have a side business like I have a side business. So what's gonna happen? Although I'm an employee I still have to worry about paying estimated taxes Or I'm gonna ask my employer to take more money out of my paycheck So even though you're an employee you might have to worry about Estimated taxes if you have other sources of income now, what about if you're self-employed if you're a self-employed for sure You're gonna have to make estimated taxes assuming you're gonna be making profit. Okay now bear in mind That you are responsible for Determining how much to pay and we're gonna show you what what are the guidelines a penalty is imposed for a failure to pay Estimated income tax. There is a penalty if you don't pay the penalties apply to individuals Trust certain estate Corporations and it's based on the rate of interest and effect for deficiency assessment So it's the same interest rate that they will charge you based if you have a deficiency assessment It means you did not pay enough taxes now No penalty if the tax do is less than five hundred dollar for corporations or for individuals others Which is I'm gonna say individuals at a thousand simply put if you're an individual and you came short a thousand dollar Don't worry about it. There is no penalty if you are short a thousand dollar if you're a corporation $500 now corporation must pay the the last quarterly payment by the 12th month of the same year So they have to make the quarterly payment before the end of the year Generally the payment when you make payments. It's one fourth One fourth it means every quarter generally the same payment And this is what you fill out and I used to fill a lot of those out I still fill out one or two one for myself and one for my brother, but the point is This is what it looks like for example the first payment the first estimated payment for example, this is for 2019 It's due on just kind of to show you the due date You'll have to fill out this form and send it on April 15th the second voucher payment June 17th the third one September 16th so notice April May and June two months later you have to pay June then you have June July August September September make The end of make the third payment September 16th and the fourth payment which will be due January 15 2020 and today actually January I'm doing this recording on January 18th January 18th 2020 so whoever did not made their last payment for the quarter They're three days late now. I'm gonna talk specifically about the rules for the individuals But also talk the corporation. So so how do we determine the individual under payment of estimated tax? Okay, well, how do we determine this? It's the difference. So we have to find the difference The difference between the estimates or withholding if you had withholding that were paid and the lower of two figures 90% of the current year tax or 100% of the prior year tax Now if your AGI if you're adjusted gross income more than 150 well, you're gonna change this to 110 So that's that's what you do. So once again, and the best way to illustrate this is to work few examples But this that's the rule 90% of the current year P 90% of your current tax or 100% of your of your prior tax and those Choose the lower of these two and compare them to what you pay if what you paid and estimates and withholding more You're in good shape. Now if your AGI is more than 150 This 100 becomes 110 once again the best way to look at these rules is to work an example So let's look at this example. Your prior AGI is your prior year AGI is 75,000 Total amount withholding an estimated tax this year is 800 your current tax liability is 1200 your prior year tax Liability is a thousand first thing you should do especially on the CPA exam is determine if the amount is more than a thousand Why well, I have to pay 1200. I already paid 800. So 1200 minus 800. I'm short 400. Yeah, that's good I'm short less than a thousand. What's the under payment of penalty? Zero nothing. I don't have to Make a payment because I'm short $400 because I'm responsible for 1200 already made 800 worth of payments Let's look at the second example prior year AGI 135 total amount withholding an estimated tax payment 1750 current tax liability 3000 prior year tax liability 2000 first determine if your obligation is more than a thousand 3000 minus 750 equal to 1250. Well, guess what? You know, I have to do something because I'm responsible for more than a thousand. Now. What do I do now now? I'm going to take the lesser of 90 percent of the current year. What is 90 90 percent of the current year. The current year is 3000 I'm going to multiply 3000 by 90 percent Which it should be 2700 and I'm going to take 100 percent of the prior year 2000 times 100 percent is 2000 The lesser of these two is 2000 2000 minus 1750. I was short My the underpayment of penalty is 250 the underpayment of penalty is based on 250 based on 250 Example three prior and current year AGI is 70 total withholding an estimated tax is 1800 current year tax liability is 3000 prior year tax liability is zero now Well What's the difference between three thousand and eight hundred? It's 1200 therefore the thousand Rule doesn't the thousand dollar rule does not apply in a sense. It's not really a rule But if your liability is less than a thousand, there's no underpayment of penalty Well, look the prior year tax liability is zero. What if we take one zero times? Prior year is 90 percent. What do we get? We get zero simply put if your prior tax liability is zero There's no underpayment of penalty. So that's another Another rule where if the prior tax liability is zero, you don't have to worry about underpayment of penalty So the answer will be zero Prior year AGI is 90,000 total amount withholding an estimated tax is 3000 current year tax liability 4500 prior year tax liability 5000 first. Let's see if the thousand dollar thousand dollar Rule apply. What's the difference between 4500 and 3000? It's 1500. Well, I have to do more What does that mean? It means I have to take The lesser of 100% of prior year 100% of the prior year What's the prior year? 5000 So this is one hundred five thousand times 100% Or 4500 times 90% 4000 and 50 which one is the lower of these two? The lower of these two is 4050 minus 3000 underpayment of penalty 1050 Let's take a look at this example Prior year AGI 160 total withholding an estimated tax payment 6000 Now notice here. It's more than 150 than 110 percent will apply So we're going to take the 6000 times not 100. I'm going to change the color here I'm going to do 110 percent. Why did I change the color? Because Prior year AGI is 160. That's 6600 and the current here multiplied by 90 percent And that's going to give us 7600 and 50 the lower of these two is 6600 6600 minus minus 6000 My underpayment is 600. Okay, that's for individuals. Let's look at the rules for corporations just to kind of make sure we are comfortable with this A corporation underpayment of estimated taxes is the difference between the estimates that were paid and the lower of And there is no withholding for corporation. That's why we only have the estimates that were paid and the lower of The current year tax or the prior year tax So we look at the current year tax and the prior year tax now for the prior year tax We have certain rules the prior year alternative We must have a full year obviously because we have to compare apples to apples It has it cannot be zero It cannot be like losses a non-zero tax amount must have generated for that year and If it's a large corporation What's a large corporation if you made a million and if you have a million Of taxable income or more in in any of the prior three years You can use the alternative only for the first installment of the year So you could use the alternative only this method the prior year Number only for the first installment. So let's take a look at Some example to illustrate those three concepts basically two concepts in a sense three and you're going to see why it's three Concepts, so let's take a look at the example. Okay, so we're looking at cold services corporation cold services corporation cold with a k Estimate that it's 2019 taxable income will be half a million That's its subject to a 21 income tax rate and incur 105,000 in liability. So this is current year For each of the following independent cases compute colds 2019 minimum quarterly estimated tax payment that will avoid under payment of penalty So tell me how much I need to pay to avoid under payment of penalty. Okay, so I have the current year 105 For 2018 taxable income was negative negative 200,000 so immediately if it's negative Okay, if it's negative, it means I cannot use the prior year because to use the prior year You have to have a non zero tax amount. You have to have a positive tax amount. Therefore. I can't use the prior year Well, therefore I have to use this year. Well, what what is this year the current year? Well, the current year is 105. I'm going to take 105 divided by four because I cannot use the I don't have a prior here basically and that's going to give me 26,250. So q1 I'll pay 26 to 50 q2 26 to 50 q3 26 to 50 26 to 50 q4 so on and so forth So that's my quarterly payment if I want to avoid under payment of penalty. Okay For 2018 taxable income was positive and tax liability was 94,500 now for b Now we can use a or we can use be the lower of a or b which one is the lower of a and b So this is a this is the current year a and b is the Is the prior year and I call them a and b here. They're not, you know, this is not in the code Just this is my my reference. So I'm going to use the prior year. What does that mean? It means I'm going to go with 94,500 Divided by four and I'm going to have to pay 23,625 per quarter Now notice I'm going to be short at the end of at the end of the four payments. I'm going to be short I'm going to be short 10,500 Okay, because I'm only going to pay in total I'm going to pay in total this much and I'm responsible for 105. So I'm going to be short. So 105 Minus 94 94 500 I'm going to be short 10,500 not a big deal. I'll just write a check and set it with my 1120 for that amount So there's no under payment of penalty. Okay Scenario c um for 2017 taxable income was 2 million And tax liability was 680 for 2018 taxable income was 400,000 and tax liability was 84,000 Now what's special about number c? Number c is we are dealing with a large Corporation large corporation. What is a large corporation means any of the prior three years? We We made more than a million now we can use the prior year tax Return only for the first only for the first Quarter and in estimating the payment. Okay. Um, what does that mean? Well What we have to do here what we have to do here is we have to pay The 105 because we have to pay the 105 right because we're a large corporation. However for the first installment We can use the prior The prior year you we can use the prior year. Let me just erase this and I'm gonna erase this. Okay. So What what are we looking at here? Um, so we're responsible for 105 Okay, however, we can use the prior year which was what's the prior year here. The prior year is 84,000 we can use the prior year. We can say 84,000 for the prior year for the first quarter only times 0.25 and that's going to give us 21,000 So we can use the prior year for the first quarter Now What's going to happen is this we are responsible in total for 105 if we take 105 And divide 105 by four. Let's divide 105 by four It's going to give us a payment of 26,000 26 26 250 and we did this earlier 26 250 26 250 it means we it means in total we in total in total we have to make 105,000 We already made a 21,000 payment now. This this is q1 q2 we have to make it up in q2 We have to make it up. What does that mean? It means the shortage between 21 250 and 21,000 The shortage between those two Let's see what was the short And I doubt that they will ask you questions like this on the CPA exam But you want to know the rules anyway, we were short 5,250. I'm going to add to the second payment plus 26 250 31 500 therefore my second payment is 31,500 Then the third q 26 250 And the last payment 26 250 and I paid in total 105 simply put because I'm a large company the first quarter They allowed me to use the prior quarter now As always I would like to invite you to remind you to go to my website if you're studying for the CPA exam And you are serious subscribe invest in your career You're going to study for your CPA exam once it's a lifetime investment It's worth it if you're an accounting students also it will help you in your courses Which also in a sense you are preparing for the CPA exam and you are investing in your career. Good luck I'm always here to help and study how