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Don't Fall Into This Painful Tax Trap

Tax trapEvery year, millions of people look forward to getting their tax refunds. But if you're one of those unfortunate folks who has to write the IRS a check every year, you might get even worse news: an extra bill for interest and penalties.

Most workers have their employers withhold taxes from their paychecks. If you correctly fill out the W-4 Form that your employer gives you, then the amount taken out of your paycheck should be enough to avoid any interest and penalties.

Typically, as long as you owe less than $1,000 in tax after you account for withholding and tax credits, you're in the clear. Also, if you paid at least 90% of the tax you owed in the current year, you usually won't get hit with a penalty.

But if you owe more -- especially if you earn income as an independent contractor or own a business -- then you'll need to make quarterly estimated tax payments to avoid getting hit with penalties.

How Much Do You Have to Pay?

Calculating estimated taxes is nerve-wracking even for tax-savvy people. Figuring out how much you owe this year is hard enough. Trying to guess how much you'll owe on your return for next year seems close to impossible.

That's why the IRS has a simple rule to make it as easy as possible to avoid penalties. For most taxpayers, if you take your total tax from your last year's return and divide it by four, making four equal quarterly payments of that amount this year is guaranteed to keep you from owing penalties. For those who earn $150,000 or more in adjusted gross income, you'll have to pay slightly more -- a total of 110% of your last year's tax.

That rule works even if you have nothing withheld from any paycheck. Those who do have tax withheld can reduce their payments accordingly.

Keep Your Money

Even if you slip up, penalties aren't the end of the world. Because interest rates are so low right now, the penalty amount for your 2011 taxes is only about 3% to 4% annually.

But since it's easy to avoid penalties, there's no reason to pay even that much. So don't give the IRS more than it deserves -- keep your hard-earned money for yourself!

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Infamous Tax Crimes

Although most Americans fill out their tax returns diligently and honestly, not all taxpayers are as respectful of the law. Some wealthy taxpayers cheat because they feel they already pay more than their fair share of taxes, while some regard the entire tax system as unconstitutional. Regardless of the reason, it's big news when the rich and famous are convicted of tax crimes. You're likely to know at least one or more of the famous names on this list of notorious tax cheats.

Cities with the Lowest Tax Rates

The total amount of tax you pay reaches far beyond what you owe the federal government. Depending on where you live, most likely you're required to pay additional taxes, including property and sales tax. The disparity between the amount of tax you pay in a low-tax city and that in a high-tax city can be dramatic. Living in any of these 10 cities could save you a bundle, although the exact amount may fluctuate based on your income and lifestyle choices.

Cities with the Highest Tax Rates

Much ado is made in the press about federal tax brackets, but cities can carry a tax bite of their own. Even if you live in a state that has no income tax, your city may levy a variety of taxes that could eat away the entire benefit of living in an income tax-free state, including property taxes, sales taxes and auto taxes. Consider all the costs before you move to one of these cities, and understand that rates may change based on your family's income level.

Great Ways to Get Charitable Tax Deductions

Generally, when you give money to a charity, you can use the amount of that donation as a deduction on your tax return. However, not all charities qualify as tax-deductible organizations. While there are many types of charities, they must all meet certain criteria to be classified by the IRS as tax-deductible organizations. There are legitimate tax-deductible organizations in many popular categories, such as those listed below.

A Freelancer's Guide to Taxes

Freelancing certainly has its benefits, but it can result in a few complications come tax time. The Internal Revenue Service considers freelancers to be self-employed, so if you earn income as a freelancer you must file your taxes as a business owner. While you can take additional deductions if you are self-employed, you'll also face additional taxes in the form of the self-employment tax. Here are things to consider as a freelancer when filing your taxes.

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You don't pay interest nitwits. Interest does not enter into the equation until the due dat of the returns (April 17th this year). It is a statutory penalty that doesn't change with the interest rate charged or paid by the Treasury. More journalists writing about stuff of which they know nothing. It is a stated 10% Penalty but since your underpayment starts at zero and ends at 100% it is effectively a 5% penalty. Usually even less as you pay based on the lower of the exception amounts. Not worth incurring in todays environment, but when times were better and you could get better low risk retuns lots of people paid the penalty and made more with their money elsewhere.

March 06 2012 at 3:18 PM Report abuse rate up rate down Reply

Since retirement, we make quarterly payments and the 10% penalty is a concern since our income is highly variable. We keep a monthly spread sheet - and it seems to be working so far. Thank God I learned Excel!

As an aside - writing a check to the US Treasury 4 times a year make you question even more where all the money is going and how well it is being spent. You can bet that compliance would be low if there was no payroll withholding.

March 05 2012 at 7:46 AM Report abuse rate up rate down Reply

It's "nerve-racking," not "nerve-wracking." A good piece nonetheless.

March 02 2012 at 4:41 PM Report abuse rate up rate down Reply