May 10, 2024 • 23 mins
Discover the hidden truth behind tax refunds and how they might be chipping away at your financial freedom! Daniel, the savvy founder of Bookkeeping for Painters, joins me, Richard, your tax strategy maestro, in a riveting discussion that cuts through the complexity of tax withholdings and enlightens you on managing your money like a pro. We dive deep into the history of income tax—courtesy of Milton Friedman—and its unintended side effects on entrepreneurs and hardworking employees. Grasp the significance of the pay-as-you-go system, and learn why neglecting estimated tax payments could cost you more than just a headache.
Strap in for a tactical guide to mastering your tax planning and payments. We break down the arcane art of tax estimations, ensuring you're equipped to sidestep penalties and align with your financial vision. Business owners, take heed of our strategy to earmark 25% of your profit for taxes—your future self will thank you. For those punching the clock, the revised W-4 and IRS tax withholding estimator are your new best friends. Join the conversation on the Grow Your Painting Business Facebook page, where we continue to empower you with the know-how to assert dominance over your fiscal health. After all, it's not just about numbers; it's about your goals, your control, your financial destiny.
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Transcript
Episode Transcript
Available transcripts are automatically generated. Complete accuracy is not guaranteed.
Speaker 1 (00:00):
Welcome to the Profitable Painter Podcast.
The mission of this podcast issimple to help you navigate the
financial and tax aspects ofstarting, running and scaling a
professional painting business,from the brushes and ladders to
the spreadsheets and balancesheets.
We've got you covered.
But before we dive in, a quickword of caution While we strive
to provide accurate andup-to-date financial and tax
(00:20):
information, nothing you hear onthis podcast should be
considered as financial advicespecifically for you or your
business.
We're here to share generalknowledge and experiences, not
to replace the tailored adviceyou get from a professional
financial advisor or taxconsultant.
Speaker 2 (00:40):
We strongly recommend you seeking individualized
advice before making anysignificant financial decision.
This is Daniel, the founder of.
Speaker 3 (00:43):
Bookkeeping for Painters.
And this is Richard, taxdirector, with Bookkeeping for
Painters.
It is a beautiful spring day,and if it's late spring, that
means tax refund season.
Speaker 2 (00:57):
Right, everybody's got their tax refunds and
they're looking forward tospending them, if they haven't
already funds and they'relooking forward to spending them
, if they haven't already right,yes, and you see all the uh.
I still get text messages fromliberty tax.
They're always, you know, getyour refund.
You know, uh, from like 10years ago I'm still on their,
(01:18):
their distro, somehow actuallymore than that, like 15 years
ago.
But yeah, refunds are likepeople are super excited.
Oh yeah, I get tax day, I getrefunds.
But with business owners it'snot really the same type of
feeling, or at least itshouldn't be compared to
employees.
(01:39):
So I think we're going to kindof talk about that today.
Speaker 3 (01:43):
Yeah, I thought it'd be fun to talk about the real
cost of tax refunds, especiallyfor business owners, but I think
employees can benefit from thistoo.
It's obviously a lot of fun toget that big check from the
government.
There's plenty of mattressstores and appliance sellers who
would love for you to come ondown and spend that.
(02:05):
But is that really such a goodthing when you get a big refund
from the IRS?
We're going to kind of diveinto that and see what the
hidden costs are of a big refund.
So I think everyone listeningpretty much understands that you
file your taxes and you come upwith how much you're going or
(02:28):
your tax liability is going tobe, and then we can compare that
to how much you've already paidin.
And there's two ways that youpay in.
One is through withholding onyour paycheck and if you're an
employee, that's going to be theprimary way you know you get
your paycheck and there's twonumbers there's the gross pay
(02:49):
and then there's what youactually get and the difference
between those two numbers.
A lot of it is that withholdingthat's going to the IRS and if
there's enough withholding tocover your tax liability, then
you get that refund check,direct deposit within two weeks
or a paper check within three.
If there's not enoughwithholding, then you have to
(03:12):
write the check to the IRS, andthat is never fun.
But why do we even havewithholding on paychecks anyway?
I thought this was kind ofinteresting.
You know, taxes have evolved alot in this country since its
foundation.
In fact, for a period thereafter the Civil War, we didn't
(03:32):
even have income tax in thiscountry.
It wasn't until about World WarI, when the 16th Amendment was
ratified and that we officiallymade income taxes legal.
But I guess the government wasa little concerned that they
might not get their money ifpeople had to, you know, hand
(03:54):
over a portion of their check.
Imagine that, standing by thetime clock and you get your
check and then you have to turnaround and hand 20% back to the
government, I can imagine someriots going on, at least in some
of the factories where I'veworked.
So in 1943, the famouseconomist Milton Friedman came
(04:15):
up with the idea of income taxwithholding and I guess, the
idea being that you don't misswhat you don't see.
So if it never shows up on yourcheck to begin with, then it
doesn't hurt as much.
And that is the concept that wekind of want to push back on
and kind of poke a little bit,because you know you spending
(04:38):
your money whether it comes outof your wallet or whether it
comes out of your paycheck isstill spending your money, and
so to have really good controlover your money and
understanding is going to helpyou.
Speaker 2 (04:51):
Yeah, and I think.
Well, one of the things withbusiness owners is they often
don't have that luxury of itbeing withheld.
At least, I mean, you can have.
If you're an officer in anS-corp, you have that
withholding on your payroll, butusually that doesn't cover
enough unless you're reallyturning up the withholding on
(05:13):
there.
So often you have to do theestimated tax payments actually
writing a check every quarter,which a lot of folks just
starting out don't realize andthen they get hit with a big tax
bill because Because the IRSisn't a pay as you go system,
it's not a wait until tax timeto pay, so you get hit with a
big tax bill with some penaltiesand interest.
(05:34):
So that's a thing that folksoften overlook.
Speaker 3 (05:40):
Yeah, absolutely.
And it hurts more when you haveto write that check yourself
every quarter.
So that's the second way thatwe can give money to the IRS,
the first being the withholding.
The second way is being theestimated tax payments.
Now, daniel, you mentioned thatthe IRS is a pay-as-you-go
(06:00):
system.
So what happens if you don'thave withholding or you don't
make estimated payments?
Well, they charge you interest.
They charge you interest on theamounts that have not yet been
paid in, and there's a lot ofnuance to it.
We've got the safe harbor.
We've got different things tofigure out how much that
(06:23):
interest is going to be, butright now it's generally about
8% annually.
It's going to fluctuate withthe prime rate.
So if you don't make thoseestimated payments or you don't
have the withholding to cover it, be prepared to pay more taxes
when you file your return inApril.
They've called it a fewdifferent things.
(06:43):
I think most recently they'recalling it underpayment penalty.
So there's that.
Now why not just say, well,that's fine, I'll avoid all the
penalties.
Government, take as much as you.
Take half my paycheck.
Or here let's just writemassive checks every quarter.
(07:06):
That's an option and it mightmake it easier when you file.
But do we really want to begiving Uncle Sam a interest-free
loan, or is there somethingthat we might be able to do with
our money that's more valuable?
Speaker 2 (07:23):
Yeah, Hopefully, if you have a business, you can
think of a better way to useyour money than to give it to
the IRS.
I'm hoping.
Speaker 3 (07:30):
Absolutely.
So I did a tax planning meetingwith a client this week and we
ran his projections.
And he is going to owe taxes,but because this is his first
year in business, the minimumamount that he has to pay in to
avoid that interest is very,very low.
(07:51):
So I gave him two options.
I said well, you can eitherwrite some pretty big checks for
estimated payments and the IRSwill be very grateful if you do
that Then when you file your taxand return in April, you can
get that refund and go buy amattress or something like that,
or maybe you take that moneyand you reinvest it in your
(08:13):
business or put it in a highyield savings account or do
something more meaningful to you, and then just be prepared,
keep it liquid, because in about10 months from now you're going
to need to pay your taxes withit.
And so I asked him what he feltmore comfortable with.
(08:36):
Because people have differentfeelings when it comes to the
IRS and I've heard it both waysand both positions are valid.
He decided to go ahead and keephis money.
I think he's going to reinvestit in his business, but he
understands that he's going tohave to write that big check
when he goes to file.
And that's kind of what I loveabout tax planning is that it
(08:59):
puts the power in your court.
You know you can decide.
I've had other people tell melike no, I don't want to deal
with the IRS, I don't want tohave to worry about it.
I want to make my estimatedpayments, and that's fair too.
I understand that.
Now, as far as you know what isgoing to be more financially
(09:23):
advantaged, I mean you can seethat obviously you keeping your
money longer is probably goingto be better for you if you're
not going to suffer emotionallyor mentally because of it.
There's this concept ineconomics called opportunity
cost, and I don't want to putanyone to sleep with an
(09:44):
economics lecture, but basicallyit's the idea that having money
now or keeping money for longerperiods of time makes that
money more valuable than in thefuture.
So let me kind of illustratethan in the future.
(10:07):
So let me kind of illustratePeople who win the lottery.
Right, they win the $10 millionjackpot.
They don't get a check for $10million.
They usually get an option.
You can either have an annuitywhere we pay you, you know,
$500,000 for the next 20 yearsand that's your $10 million, or
we'll give you a lump sum, andthe lump sum is usually like 50%
(10:30):
to 60% of the winnings.
Why is that?
Because having that money upfront is more valuable than
having the same amount spreadout over the next 20 years, than
having the same amount spreadout over the next 20 years,
because you can do somethingwith that money.
Having that access to capital,you can invest it in your
(10:52):
business.
If your business is doing well,you might get a 15% to a 25%
return.
You might invest it insecurities and get an 8% to 10%
return.
You might just find a reallygood high-yield savings account
or a certificate of deposit.
I think those are going foraround 3% to 5% right now.
So having your money now makesit more valuable than having
(11:18):
somebody else hold onto it andhaving to get it in the future,
and that's the idea of notgiving Uncle Sam a tax-free loan
.
Keep your money, deploy it,make something with it and then
only give it to the IRS when youabsolutely have to.
Speaker 2 (11:35):
Yeah, and we can take a different example.
Let's say you can either paythe IRS let's just use simple
numbers, say $1,000 in estimatedtax payments during the year or
, if you can hold on to that$1,000 and not be hit with any
(11:56):
kind of underpayment penalty,and use that $1,000 to put into
your marketing efforts and turnthat $1,000 into $1,500, or
whatever the case is, now youhave more money, so when it is
time to pay the IRS the $1,000,you have $1,500 to work with,
(12:19):
and so you've net $500 on thatoriginal $1,000 because you kept
it and reinvested in thebusiness and got profit from
that.
Speaker 3 (12:30):
Absolutely.
That opportunity cost of givingthe money away is expensive
when there's something that youcould be doing with it.
So it's a balancing act, right?
We don't want to not pay ourtaxes and then, you know, put a
financial strain on ourselves orour business.
We don't want to not pay ourtaxes and pay more than we
(12:55):
should because of interest andpenalties, but on the same hand,
we want to be able to hold ontoour money as long as we
reasonably can.
We want to be able to hold onto our money as long as we
reasonably can.
So how do you figure it out?
Well, I'm a big believer indoing accurate tax projections,
because if you don't understandwhat you're going to have to pay
(13:16):
, it becomes very difficult tomake meaningful decisions about
what to do.
So the first step is an accurateprojection Know how much you've
made so far this year, what theend of the year is going to
look like, how much your taxliability is going to be for
both the IRS and the state, ifyou live in a state with an
(13:39):
income tax, and then understandwhat you're withholding and your
estimated payments are going todo towards that tax liability
and how much you need to eitherincrease them or be prepared to
pay when you go to file.
You know, sometimes folks wantto make things a little bit
(14:01):
easier on themselves.
So you know, if they're set upas a corporation or an S
corporation and they'recollecting a salary, we might
increase the withholding ontheir paychecks so that they
don't have to make estimatedpayments, or at least their
estimated payments will be a lotless than they would have been.
Other folks like to get as muchas they can in their paycheck
(14:25):
and they're going to take thatmoney and they're going to put
it in that high-yield savingsaccount and they're only going
to send it to the IRS when theymake their quarterly estimated
payments.
Either way is valid, but thekey is understanding what you're
going to have to pay is valid,but the key is understanding
what you're going to have to pay, how it's getting paid and
(14:50):
having a plan that suits yourfinancial goals, but also what
you're emotionally and mentallycomfortable with, because huge
tax bills and IRS problems canbreak a business, and so we
don't ever want it to get awayfrom us.
Speaker 2 (15:00):
Yeah, and the way to get a projection?
Obviously you can get ahold ofa tax planner and have them do a
projection for you.
Another option if you want todo it yourself, you can.
Actually the IRS has a taxwithholding estimator which not
only helps with as the titleimplies, not only helps with as
(15:20):
the title implies withwithholding estimating, but also
it has a section forself-employed as well where you
can plug in some numbers.
You kind of have to know whatyou're doing a little bit.
You have to be a little bitsavvy on knowing what you're
filling out, but it doescalculate your estimated taxes
(15:45):
that you may have.
You may have to pay, or youknow and give you that
information.
Obviously you'll have to knowhow much you're you've made,
like you said, and how much youthink you're going to make over
the over the remainder of theyear.
But it's, it can be a good toolif, if you, if you're up to the
challenge.
Speaker 3 (15:57):
Yeah, yeah.
And I should just throw in aword too about W-4s.
If you're an employee andyou've worked for somebody else,
then you're familiar with theW-4.
And that is the form that youuse to tell your employer how
much you want withheld from yourpaychecks.
W-4s used to be prettycomplicated and difficult to
(16:21):
understand and then they revisedthem a few years ago and now
they're 10 times worse.
So if you need help withfiguring out your withholding,
that IRS tool is a really goodthing to use.
Basically, you're trying to.
It's not so bad when you're byyourself, but if you have
(16:41):
multiple wage earners in yourhome, especially if one spouse
makes significantly more thanthe other spouse now you're
dealing with two W-4s but you'resharing the same tax return.
It's a mess, you know.
Try to get some help, if youcan, or that IRS tool on the
website.
It takes a little while, butit's pretty accurate Because,
(17:05):
unfortunately, the forms arethere.
I'm not going to lie, a lot ofpeople have not enjoyed them and
it's really sad because a lotof people think that, oh, I
filled it out correctly, mywithholding is all good, and
then they file their tax returnand they were expecting a refund
and they're having to pay, andthere is nothing that will ruin
(17:26):
your day faster than having towrite a check to the IRS when
you think that you're supposedto get a refund.
You hear people say, like I'vegotten a refund for the last 10
years, it's X amount of money, Ihave plans for it, and now, all
of a sudden, not only is thatnot coming in, but they're
dipping into their savings.
It's not pretty.
(17:46):
And update your W-4s each yearBecause, believe it or not, the
IRS actually changes the tables,and so if you look at your
check and you notice that a lotless money is being withheld
than before, that's a good sign.
You need to update your W-4.
It's easy to ignore, right?
(18:07):
It's nice to get that extra 50bucks a paycheck, but that is
going to burn you more thanlikely when you go to file, so
try to keep up with it if youcan, otherwise, be prepared to
break out the checkbook.
Speaker 2 (18:22):
Yeah.
So I guess, to kind of wrapthings up, what are some
actionable steps that folks cantake to make sure that they have
an understanding of what theyshould be paying in estimated
taxes, or if they should orshould not.
What can they actually do onthis topic?
Speaker 3 (18:43):
Sure, all right.
If you are a business owner andyou are just starting out and
you don't have any kind of taxplanning or anything like that
good rule of thumb 25% of yourprofit should be put aside for
taxes.
You're going to want to make anestimated payment each quarter.
(19:04):
The first one is due April 15,second one June 15, then
September 15, and then January15.
Notice that those aren'tactually all three months apart.
The IRS has kind of this wonkysystem, so be aware of what
those dates are.
Make your estimated payments ifyou can.
(19:26):
Now, if you are a little bitfurther along in your business
journey, doing tax projectionsto understand exactly what those
amounts should be, so thatyou're not putting in any more
than you have to and you'rekeeping as much of your money as
you can, is going to be a bighelp.
(19:48):
If you are an S-corp and you aregetting a paycheck along with
business profits, understand howyour paycheck withholding
combines with your estimatedtaxes.
Those both go together toachieve the same thing.
So you can play with those alittle bit, maybe have more
withholding and less estimatedtax, or vice versa.
(20:10):
But understand how those worktogether and then the ultimate
goal is if you get a smallrefund or even if you have to
write a small check.
It might not be real pleasant,but keep in mind that you have
made sure that you have notgiven the government an
interest-free loan and as longas that check that balance due
(20:34):
is less than $1,000 when youfile, there will be no
underpayment penalty or interest.
So that's the goal right.
Somewhere between zero refundand $1,000 balance due, that is
the sweet spot for winning atnot giving the government a loan
(20:55):
.
Speaker 2 (20:57):
Yeah, so you're telling me it's not a $10,000
refund check.
Speaker 3 (21:01):
It's not a $10,000 refund check.
It's not a $10,000 refund check.
Refund checks are thegovernment giving you back what
is already yours?
Yeah, so they're fun to get,but you should never have given
it to them in the first place,to be honest with you.
Now I understand, and there'ssome exceptions.
Speaker 2 (21:21):
Yeah, there's emotional, but there there are
some exceptions.
If you're making any kind ofmoney as a business owner and
you're getting a $10,000 refundcheck, it's it's money that you
know, it's money that is yours.
Now, obviously, if you'reyou're a business owner is
really struggling and you'regetting some sort of you know
(21:44):
refund from earned income creditor something like that, that's
a different story, but we'rekind of assuming that you're
making some sort of money here.
Speaker 3 (21:55):
Yeah, absolutely so.
Yeah, I mean, we're not doggingon anybody who gets refunds,
you know we get it.
We're just saying that if youare consistently getting large
refunds, you might want toreconsider.
Is that the best use of yourmoney, even if you're.
Some people will say, well, Iuse it as like a forced savings
plan and there's a behavioralaspect to that that I get.
(22:17):
But, if it's possible, maybeset up some kind of automatic
withdrawal to a high yieldsavings account so that you
collect interest.
Because, if you haven't noticed, the government does not always
play fair.
When you owe the IRS money,they charge interest, but when
they take too much of your money, they don't give you anything
(22:40):
extra back with it.
So we're just talking aboutmaybe playing the game to a
little bit of a next level andtrying to keep as much of your
money in your pocket as we can.
Speaker 2 (22:54):
Yeah, definitely got to look out for yourself in this
case.
Don't rely on the IRS to takecare of you.
I think is the takeaway here.
Speaker 3 (23:05):
Right, right, yeah, yep, it's being responsible for
your own finances and just kindof understanding how the game is
played.
So if you have any questionsabout estimated tax payments,
withholding, how do I doprojections, you can drop those
(23:25):
questions in the Grow, yourPainting Business Facebook page.
We'd love to hear from you.
Or if you have suggestionsabout a topic that you would
like to hear on the next podcast, please let us know.
Otherwise, we really doappreciate you listening and
hope to see you on the nextepisode.
Speaker 2 (23:44):
See you next week.
Welcome to the Profitable Painter Podcast.
The mission of this podcast issimple to help you navigate the
financial and tax aspects ofstarting, running and scaling a
professional painting business,from the brushes and ladders to
the spreadsheets and balancesheets.
We've got you covered.
But before we dive in, a quickword of caution While we strive
to provide accurate andup-to-date financial and tax
(00:20):
information, nothing you hear onthis podcast should be
considered as financial advicespecifically for you or your
business.
We're here to share generalknowledge and experiences, not
to replace the tailored adviceyou get from a professional
financial advisor or taxconsultant.
Speaker 2 (00:40):
We strongly recommend you seeking individualized
advice before making anysignificant financial decision.
This is Daniel, the founder of.
Speaker 3 (00:43):
Bookkeeping for Painters.
And this is Richard, taxdirector, with Bookkeeping for
Painters.
It is a beautiful spring day,and if it's late spring, that
means tax refund season.
Speaker 2 (00:57):
Right, everybody's got their tax refunds and
they're looking forward tospending them, if they haven't
already funds and they'relooking forward to spending them
, if they haven't already right,yes, and you see all the uh.
I still get text messages fromliberty tax.
They're always, you know, getyour refund.
You know, uh, from like 10years ago I'm still on their,
(01:18):
their distro, somehow actuallymore than that, like 15 years
ago.
But yeah, refunds are likepeople are super excited.
Oh yeah, I get tax day, I getrefunds.
But with business owners it'snot really the same type of
feeling, or at least itshouldn't be compared to
employees.
(01:39):
So I think we're going to kindof talk about that today.
Speaker 3 (01:43):
Yeah, I thought it'd be fun to talk about the real
cost of tax refunds, especiallyfor business owners, but I think
employees can benefit from thistoo.
It's obviously a lot of fun toget that big check from the
government.
There's plenty of mattressstores and appliance sellers who
would love for you to come ondown and spend that.
(02:05):
But is that really such a goodthing when you get a big refund
from the IRS?
We're going to kind of diveinto that and see what the
hidden costs are of a big refund.
So I think everyone listeningpretty much understands that you
file your taxes and you come upwith how much you're going or
(02:28):
your tax liability is going tobe, and then we can compare that
to how much you've already paidin.
And there's two ways that youpay in.
One is through withholding onyour paycheck and if you're an
employee, that's going to be theprimary way you know you get
your paycheck and there's twonumbers there's the gross pay
(02:49):
and then there's what youactually get and the difference
between those two numbers.
A lot of it is that withholdingthat's going to the IRS and if
there's enough withholding tocover your tax liability, then
you get that refund check,direct deposit within two weeks
or a paper check within three.
If there's not enoughwithholding, then you have to
(03:12):
write the check to the IRS, andthat is never fun.
But why do we even havewithholding on paychecks anyway?
I thought this was kind ofinteresting.
You know, taxes have evolved alot in this country since its
foundation.
In fact, for a period thereafter the Civil War, we didn't
(03:32):
even have income tax in thiscountry.
It wasn't until about World WarI, when the 16th Amendment was
ratified and that we officiallymade income taxes legal.
But I guess the government wasa little concerned that they
might not get their money ifpeople had to, you know, hand
(03:54):
over a portion of their check.
Imagine that, standing by thetime clock and you get your
check and then you have to turnaround and hand 20% back to the
government, I can imagine someriots going on, at least in some
of the factories where I'veworked.
So in 1943, the famouseconomist Milton Friedman came
(04:15):
up with the idea of income taxwithholding and I guess, the
idea being that you don't misswhat you don't see.
So if it never shows up on yourcheck to begin with, then it
doesn't hurt as much.
And that is the concept that wekind of want to push back on
and kind of poke a little bit,because you know you spending
(04:38):
your money whether it comes outof your wallet or whether it
comes out of your paycheck isstill spending your money, and
so to have really good controlover your money and
understanding is going to helpyou.
Speaker 2 (04:51):
Yeah, and I think.
Well, one of the things withbusiness owners is they often
don't have that luxury of itbeing withheld.
At least, I mean, you can have.
If you're an officer in anS-corp, you have that
withholding on your payroll, butusually that doesn't cover
enough unless you're reallyturning up the withholding on
(05:13):
there.
So often you have to do theestimated tax payments actually
writing a check every quarter,which a lot of folks just
starting out don't realize andthen they get hit with a big tax
bill because Because the IRSisn't a pay as you go system,
it's not a wait until tax timeto pay, so you get hit with a
big tax bill with some penaltiesand interest.
(05:34):
So that's a thing that folksoften overlook.
Speaker 3 (05:40):
Yeah, absolutely.
And it hurts more when you haveto write that check yourself
every quarter.
So that's the second way thatwe can give money to the IRS,
the first being the withholding.
The second way is being theestimated tax payments.
Now, daniel, you mentioned thatthe IRS is a pay-as-you-go
(06:00):
system.
So what happens if you don'thave withholding or you don't
make estimated payments?
Well, they charge you interest.
They charge you interest on theamounts that have not yet been
paid in, and there's a lot ofnuance to it.
We've got the safe harbor.
We've got different things tofigure out how much that
(06:23):
interest is going to be, butright now it's generally about
8% annually.
It's going to fluctuate withthe prime rate.
So if you don't make thoseestimated payments or you don't
have the withholding to cover it, be prepared to pay more taxes
when you file your return inApril.
They've called it a fewdifferent things.
(06:43):
I think most recently they'recalling it underpayment penalty.
So there's that.
Now why not just say, well,that's fine, I'll avoid all the
penalties.
Government, take as much as you.
Take half my paycheck.
Or here let's just writemassive checks every quarter.
(07:06):
That's an option and it mightmake it easier when you file.
But do we really want to begiving Uncle Sam a interest-free
loan, or is there somethingthat we might be able to do with
our money that's more valuable?
Speaker 2 (07:23):
Yeah, Hopefully, if you have a business, you can
think of a better way to useyour money than to give it to
the IRS.
I'm hoping.
Speaker 3 (07:30):
Absolutely.
So I did a tax planning meetingwith a client this week and we
ran his projections.
And he is going to owe taxes,but because this is his first
year in business, the minimumamount that he has to pay in to
avoid that interest is very,very low.
(07:51):
So I gave him two options.
I said well, you can eitherwrite some pretty big checks for
estimated payments and the IRSwill be very grateful if you do
that Then when you file your taxand return in April, you can
get that refund and go buy amattress or something like that,
or maybe you take that moneyand you reinvest it in your
(08:13):
business or put it in a highyield savings account or do
something more meaningful to you, and then just be prepared,
keep it liquid, because in about10 months from now you're going
to need to pay your taxes withit.
And so I asked him what he feltmore comfortable with.
(08:36):
Because people have differentfeelings when it comes to the
IRS and I've heard it both waysand both positions are valid.
He decided to go ahead and keephis money.
I think he's going to reinvestit in his business, but he
understands that he's going tohave to write that big check
when he goes to file.
And that's kind of what I loveabout tax planning is that it
(08:59):
puts the power in your court.
You know you can decide.
I've had other people tell melike no, I don't want to deal
with the IRS, I don't want tohave to worry about it.
I want to make my estimatedpayments, and that's fair too.
I understand that.
Now, as far as you know what isgoing to be more financially
(09:23):
advantaged, I mean you can seethat obviously you keeping your
money longer is probably goingto be better for you if you're
not going to suffer emotionallyor mentally because of it.
There's this concept ineconomics called opportunity
cost, and I don't want to putanyone to sleep with an
(09:44):
economics lecture, but basicallyit's the idea that having money
now or keeping money for longerperiods of time makes that
money more valuable than in thefuture.
So let me kind of illustratethan in the future.
(10:07):
So let me kind of illustratePeople who win the lottery.
Right, they win the $10 millionjackpot.
They don't get a check for $10million.
They usually get an option.
You can either have an annuitywhere we pay you, you know,
$500,000 for the next 20 yearsand that's your $10 million, or
we'll give you a lump sum, andthe lump sum is usually like 50%
(10:30):
to 60% of the winnings.
Why is that?
Because having that money upfront is more valuable than
having the same amount spreadout over the next 20 years, than
having the same amount spreadout over the next 20 years,
because you can do somethingwith that money.
Having that access to capital,you can invest it in your
(10:52):
business.
If your business is doing well,you might get a 15% to a 25%
return.
You might invest it insecurities and get an 8% to 10%
return.
You might just find a reallygood high-yield savings account
or a certificate of deposit.
I think those are going foraround 3% to 5% right now.
So having your money now makesit more valuable than having
(11:18):
somebody else hold onto it andhaving to get it in the future,
and that's the idea of notgiving Uncle Sam a tax-free loan
.
Keep your money, deploy it,make something with it and then
only give it to the IRS when youabsolutely have to.
Speaker 2 (11:35):
Yeah, and we can take a different example.
Let's say you can either paythe IRS let's just use simple
numbers, say $1,000 in estimatedtax payments during the year or
, if you can hold on to that$1,000 and not be hit with any
(11:56):
kind of underpayment penalty,and use that $1,000 to put into
your marketing efforts and turnthat $1,000 into $1,500, or
whatever the case is, now youhave more money, so when it is
time to pay the IRS the $1,000,you have $1,500 to work with,
(12:19):
and so you've net $500 on thatoriginal $1,000 because you kept
it and reinvested in thebusiness and got profit from
that.
Speaker 3 (12:30):
Absolutely.
That opportunity cost of givingthe money away is expensive
when there's something that youcould be doing with it.
So it's a balancing act, right?
We don't want to not pay ourtaxes and then, you know, put a
financial strain on ourselves orour business.
We don't want to not pay ourtaxes and pay more than we
(12:55):
should because of interest andpenalties, but on the same hand,
we want to be able to hold ontoour money as long as we
reasonably can.
We want to be able to hold onto our money as long as we
reasonably can.
So how do you figure it out?
Well, I'm a big believer indoing accurate tax projections,
because if you don't understandwhat you're going to have to pay
(13:16):
, it becomes very difficult tomake meaningful decisions about
what to do.
So the first step is an accurateprojection Know how much you've
made so far this year, what theend of the year is going to
look like, how much your taxliability is going to be for
both the IRS and the state, ifyou live in a state with an
(13:39):
income tax, and then understandwhat you're withholding and your
estimated payments are going todo towards that tax liability
and how much you need to eitherincrease them or be prepared to
pay when you go to file.
You know, sometimes folks wantto make things a little bit
(14:01):
easier on themselves.
So you know, if they're set upas a corporation or an S
corporation and they'recollecting a salary, we might
increase the withholding ontheir paychecks so that they
don't have to make estimatedpayments, or at least their
estimated payments will be a lotless than they would have been.
Other folks like to get as muchas they can in their paycheck
(14:25):
and they're going to take thatmoney and they're going to put
it in that high-yield savingsaccount and they're only going
to send it to the IRS when theymake their quarterly estimated
payments.
Either way is valid, but thekey is understanding what you're
going to have to pay is valid,but the key is understanding
what you're going to have to pay, how it's getting paid and
(14:50):
having a plan that suits yourfinancial goals, but also what
you're emotionally and mentallycomfortable with, because huge
tax bills and IRS problems canbreak a business, and so we
don't ever want it to get awayfrom us.
Speaker 2 (15:00):
Yeah, and the way to get a projection?
Obviously you can get ahold ofa tax planner and have them do a
projection for you.
Another option if you want todo it yourself, you can.
Actually the IRS has a taxwithholding estimator which not
only helps with as the titleimplies, not only helps with as
(15:20):
the title implies withwithholding estimating, but also
it has a section forself-employed as well where you
can plug in some numbers.
You kind of have to know whatyou're doing a little bit.
You have to be a little bitsavvy on knowing what you're
filling out, but it doescalculate your estimated taxes
(15:45):
that you may have.
You may have to pay, or youknow and give you that
information.
Obviously you'll have to knowhow much you're you've made,
like you said, and how much youthink you're going to make over
the over the remainder of theyear.
But it's, it can be a good toolif, if you, if you're up to the
challenge.
Speaker 3 (15:57):
Yeah, yeah.
And I should just throw in aword too about W-4s.
If you're an employee andyou've worked for somebody else,
then you're familiar with theW-4.
And that is the form that youuse to tell your employer how
much you want withheld from yourpaychecks.
W-4s used to be prettycomplicated and difficult to
(16:21):
understand and then they revisedthem a few years ago and now
they're 10 times worse.
So if you need help withfiguring out your withholding,
that IRS tool is a really goodthing to use.
Basically, you're trying to.
It's not so bad when you're byyourself, but if you have
(16:41):
multiple wage earners in yourhome, especially if one spouse
makes significantly more thanthe other spouse now you're
dealing with two W-4s but you'resharing the same tax return.
It's a mess, you know.
Try to get some help, if youcan, or that IRS tool on the
website.
It takes a little while, butit's pretty accurate Because,
(17:05):
unfortunately, the forms arethere.
I'm not going to lie, a lot ofpeople have not enjoyed them and
it's really sad because a lotof people think that, oh, I
filled it out correctly, mywithholding is all good, and
then they file their tax returnand they were expecting a refund
and they're having to pay, andthere is nothing that will ruin
(17:26):
your day faster than having towrite a check to the IRS when
you think that you're supposedto get a refund.
You hear people say, like I'vegotten a refund for the last 10
years, it's X amount of money, Ihave plans for it, and now, all
of a sudden, not only is thatnot coming in, but they're
dipping into their savings.
It's not pretty.
(17:46):
And update your W-4s each yearBecause, believe it or not, the
IRS actually changes the tables,and so if you look at your
check and you notice that a lotless money is being withheld
than before, that's a good sign.
You need to update your W-4.
It's easy to ignore, right?
(18:07):
It's nice to get that extra 50bucks a paycheck, but that is
going to burn you more thanlikely when you go to file, so
try to keep up with it if youcan, otherwise, be prepared to
break out the checkbook.
Speaker 2 (18:22):
Yeah.
So I guess, to kind of wrapthings up, what are some
actionable steps that folks cantake to make sure that they have
an understanding of what theyshould be paying in estimated
taxes, or if they should orshould not.
What can they actually do onthis topic?
Speaker 3 (18:43):
Sure, all right.
If you are a business owner andyou are just starting out and
you don't have any kind of taxplanning or anything like that
good rule of thumb 25% of yourprofit should be put aside for
taxes.
You're going to want to make anestimated payment each quarter.
(19:04):
The first one is due April 15,second one June 15, then
September 15, and then January15.
Notice that those aren'tactually all three months apart.
The IRS has kind of this wonkysystem, so be aware of what
those dates are.
Make your estimated payments ifyou can.
(19:26):
Now, if you are a little bitfurther along in your business
journey, doing tax projectionsto understand exactly what those
amounts should be, so thatyou're not putting in any more
than you have to and you'rekeeping as much of your money as
you can, is going to be a bighelp.
(19:48):
If you are an S-corp and you aregetting a paycheck along with
business profits, understand howyour paycheck withholding
combines with your estimatedtaxes.
Those both go together toachieve the same thing.
So you can play with those alittle bit, maybe have more
withholding and less estimatedtax, or vice versa.
(20:10):
But understand how those worktogether and then the ultimate
goal is if you get a smallrefund or even if you have to
write a small check.
It might not be real pleasant,but keep in mind that you have
made sure that you have notgiven the government an
interest-free loan and as longas that check that balance due
(20:34):
is less than $1,000 when youfile, there will be no
underpayment penalty or interest.
So that's the goal right.
Somewhere between zero refundand $1,000 balance due, that is
the sweet spot for winning atnot giving the government a loan
(20:55):
.
Speaker 2 (20:57):
Yeah, so you're telling me it's not a $10,000
refund check.
Speaker 3 (21:01):
It's not a $10,000 refund check.
It's not a $10,000 refund check.
Refund checks are thegovernment giving you back what
is already yours?
Yeah, so they're fun to get,but you should never have given
it to them in the first place,to be honest with you.
Now I understand, and there'ssome exceptions.
Speaker 2 (21:21):
Yeah, there's emotional, but there there are
some exceptions.
If you're making any kind ofmoney as a business owner and
you're getting a $10,000 refundcheck, it's it's money that you
know, it's money that is yours.
Now, obviously, if you'reyou're a business owner is
really struggling and you'regetting some sort of you know
(21:44):
refund from earned income creditor something like that, that's
a different story, but we'rekind of assuming that you're
making some sort of money here.
Speaker 3 (21:55):
Yeah, absolutely so.
Yeah, I mean, we're not doggingon anybody who gets refunds,
you know we get it.
We're just saying that if youare consistently getting large
refunds, you might want toreconsider.
Is that the best use of yourmoney, even if you're.
Some people will say, well, Iuse it as like a forced savings
plan and there's a behavioralaspect to that that I get.
(22:17):
But, if it's possible, maybeset up some kind of automatic
withdrawal to a high yieldsavings account so that you
collect interest.
Because, if you haven't noticed, the government does not always
play fair.
When you owe the IRS money,they charge interest, but when
they take too much of your money, they don't give you anything
(22:40):
extra back with it.
So we're just talking aboutmaybe playing the game to a
little bit of a next level andtrying to keep as much of your
money in your pocket as we can.
Speaker 2 (22:54):
Yeah, definitely got to look out for yourself in this
case.
Don't rely on the IRS to takecare of you.
I think is the takeaway here.
Speaker 3 (23:05):
Right, right, yeah, yep, it's being responsible for
your own finances and just kindof understanding how the game is
played.
So if you have any questionsabout estimated tax payments,
withholding, how do I doprojections, you can drop those
(23:25):
questions in the Grow, yourPainting Business Facebook page.
We'd love to hear from you.
Or if you have suggestionsabout a topic that you would
like to hear on the next podcast, please let us know.
Otherwise, we really doappreciate you listening and
hope to see you on the nextepisode.
Speaker 2 (23:44):
See you next week.
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