How the IRS defines an underpayment and who it affects

Underpayment of estimated taxes means you didn’t remit enough tax during the tax year through withholding (from wages, pensions, etc.) or timely estimated payments (Form 1040-ES). The IRS expects taxpayers who owe $1,000 or more in tax after withholding to make estimated payments. Typical groups affected include: self-employed people, independent contractors, landlords, retirees with non-withheld pensions, and anyone with significant investment or other non-wage income.

In my 15 years advising clients, I routinely see underpayments arise from one of three causes: irregular income that isn’t predicted correctly, failure to update withholding after a life or business change, and reliance on an end-of-year lump-sum payment that violates IRS timing rules.

Authoritative sources: IRS Estimated Taxes (about Form 1040-ES) and IRS Form 2210 details explain rules for estimated payments and how penalties are calculated (IRS: Estimated Taxes; IRS: About Form 2210).

Key safe-harbor rules (and the high-income exception)

To avoid the underpayment penalty, meet one of these safe-harbor tests:

  • Pay at least 90% of your current year’s total tax liability through withholding and estimated payments, or
  • Pay 100% of your prior year’s tax liability (the “100% rule”), or
  • If your adjusted gross income (AGI) on the prior year’s return exceeded $150,000 ($75,000 married filing separately), you must pay 110% of the prior year’s tax to meet safe harbor.

These thresholds are standard IRS rules and remain the primary way taxpayers avoid penalties; see IRS Publication 505 for full explanation (IRS Pub 505).

Typical quarterly due dates and payment methods

Estimated tax payments are generally due in four installments during the year. Typical calendar due dates are:

  • April (Q1),
  • June (Q2),
  • September (Q3), and
  • January of the following year (Q4).

Exact dates can shift slightly when a date falls on a weekend or holiday; always confirm with the IRS calendar. You can pay electronically via IRS Direct Pay, the Electronic Federal Tax Payment System (EFTPS), or by card (third-party processor). For payroll-style adjustments, increase withholding on Form W-4.

How penalties are calculated (high-level)

If you underpay, the IRS computes a penalty that is effectively interest on the amount you should have paid for the period of underpayment. The IRS either calculates the penalty for you using Form 2210 or you can attach a completed Form 2210 to your return to show the annualized method or reasons you weren’t subject to a penalty.

You can reduce or eliminate the penalty by using:

  • Safe-harbor payments (100%/110% or 90% rules),
  • The annualized income installment method (useful when income is seasonal or uneven), or
  • Increasing withholding late in the year (withholding is treated as paid evenly across the year for penalty purposes and can eliminate penalties even if it happens late).

See IRS: About Form 2210 and IRS Publication 505 for computation details.

Practical steps to avoid the underpayment penalty

  1. Estimate conservatively at the start of the year. Use last year’s taxes as a baseline and update regularly.
  2. Use Form 1040-ES worksheets or tax software to compute required quarterly payments. (See IRS: About Form 1040-ES.)
  3. If your income is irregular, annualize it on Form 2210 to reduce or eliminate penalties for quarters with low income.
  4. Increase payroll withholding later in the year if you find you’re behind. Because withholding is treated as paid evenly over the year, it can be an efficient way to cover shortfalls and avoid penalties.
  5. Choose an easy payment method (Direct Pay, EFTPS) and schedule payments right after you receive income to avoid cash-flow surprises.
  6. For high earners, plan to pay 110% of prior-year tax if your AGI exceeded $150,000.

In practice: I once helped a self-employed designer who had three high-revenue months mid-year. We used the annualized method on Form 2210 and recalculated her remaining quarterly payments to avoid a penalty that would otherwise have been charged based on straight-line estimation.

Example calculation (simplified)

Suppose your prior-year tax was $6,000 and you expect roughly the same tax this year. To meet the safe-harbor you should pay:

  • 100% of prior year = $6,000, or
  • 90% of current year = $5,400 (if current year estimate is correct).

If you instead paid only $3,000 during the year, the IRS may charge a penalty on the shortfall spread over the quarters. Using the annualized method or increasing withholding late might eliminate or reduce that penalty; Form 2210 will show the computation.

When you can avoid or reduce penalties

  • Small shortfalls: If the underpayment is very small or a result of a reasonable cause (e.g., casualty, disaster, illness), the IRS may waive the penalty if you explain and document the reason on Form 2210.
  • Annualized income: If your income was concentrated late in the year, using the annualized installment method on Form 2210 often reduces or eliminates the penalty.
  • Withholding adjustment: Because withholding is treated as if paid evenly throughout the year, bumping up withholding in Q4 (by filing a new W-4 with your employer) is often a quick fix.

State estimated taxes and other considerations

State governments may have their own estimated tax rules and penalties; meeting the federal safe-harbor does not always eliminate state penalties. Check your state revenue department for due dates and rules. See our related FinHelp guides on Estimated Taxes and Tax Withholding vs Estimated Payments: Optimizing Cash Flow for strategies that cover both federal and state planning.

More resources from FinHelp:

Common mistakes and how to fix them

  • Waiting until year-end to pay: Don’t assume a single payment will avoid penalties—timing matters.
  • Ignoring withholding changes: If you start a job that withholds taxes, reduce estimated payments accordingly or change your W-4 to balance withholding vs. estimated payments.
  • Failing to use the annualized method: Seasonal businesses often overpay penalties because they don’t annualize income; Form 2210 can help.

FAQs (brief)

Q: What form do I use to make estimated payments?
A: Use Form 1040-ES for worksheets and estimated tax vouchers; pay electronically through IRS Direct Pay or EFTPS.

Q: Can I avoid the penalty by increasing withholding in December?
A: Yes—because withholding counts as if paid evenly throughout the year, it can cure underpayment issues if it brings your total to a safe-harbor level.

Q: How do I compute the penalty if I’m unsure?
A: The IRS calculates it for you, but you can use Form 2210 if you prefer to compute or explain special circumstances.

Final professional tips

  • Run a mid-year tax check: review YTD income and projected deductions by June to catch underpayment risks early.
  • Favor withholding adjustments if you have wages or a pension—it’s simpler and treats payments as evenly distributed.
  • Keep documentation if a disaster or major life event affected your ability to pay; the IRS may abate penalties for reasonable cause.

Professional disclaimer: This article is educational and based on tax rules current as of 2025. It does not substitute for personalized tax advice. For specific guidance tailored to your situation, consult a qualified tax professional.

Authoritative citations

If you want a tailored checklist or a worksheet based on your income pattern, tell me the type of income (freelance, rental, investment) and I’ll point you to the best FinHelp guide or tool.