A Trick to Escape Tax Penalties

Here are a couple of common situations for new physician clients:

  • You’ve graduated training mid-year and you’re working as an IC for half the year, or
  • You’re a W2 employee and you’ve done a side IC gig (locums, extra shifts, etc.)

You suddenly realize you probably haven’t paid in enough taxes to avoid an estimated tax penalty. The noose is tightening with December 31 only a month away. Holy 1040, Batman – what do you do?

If you own a business and pay yourself via W2, it’s simple – you just write yourself a paycheck and withhold the tax deficit. Because the IRS treats tax withholding as spreading evenly throughout the year, you can avoid a late-payment penalty by using this method. Have your CPA run a tax projection or use one of the online tax calculators to estimate how much you need to withhold.

Note that if you do this, you’ll owe extra Medicare taxes as a result of paying yourself an extra paycheck. In addition, most folks in this position are not incorporated and, therefore, aren’t going to have the option of writing a paycheck. All is not lost if you happen to own a TIRA (Traditional IRA) or Roth IRA, though. This is what you can do:

  • Calculate the taxes you need to pay in;
  • Contact your custodian and ask for a distribution of that amount from your IRA and ask for 100% taxes to be withheld;
  • Within 60 days, roll the distribution back into your IRA.
  • Presto-chango, you are in the good graces of the IRS – no estimated tax penalties!

Note that you cannot employ this maneuver if you have already done a 60-day rollover within the past year. But since people rarely use the once-per-year rollover, chances are you are qualified to do this.

If you have already missed the deadline and you are facing a penalty, you may still qualify for grace from the IRS. Read my prior post, How to get out of a tax penalty

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