I generally avoid telling people what I do when I first meet them. Inevitably, they want to tell me about their portfolios, ask about taxes and estates, or complain about their accountants. There is nothing that I can do about it except learn. What I usually learn during tax season is that people are very worried about things that they cannot control or that are not real. This is especially true of people who are no longer employees, but rather manage their assets and estates. In other words, people who have become wealthy.
A simple fact of life is that the bulk of people who file their taxes early are members of the working class looking to get their refunds. The wealthier that you are and the more complicated your situation, the more likely it is that you will file an extension. The Internal Revenue Service knows this and extensions are a normal accommodation to their best customers, the people who pay a lot of tax. It is not an audit trigger. The people who file earlier are generally those who pay little or no taxes.
People who file extensions usually own things, lots of things. They have real estate, partnerships, businesses, stocks, bonds, and trusts of all kinds. There are separate returns for many of these entities, which means that some returns are due before others. Unlike workers who have a W-2 and a 1099 from a bank, the 1099s and K-1s of wealthy people nearly always need to be revised. Mutual funds, exchange-traded funds, and other entities will issue a preliminary 1099, but they will not yet have received the final information from underlying investments. These may include global companies that have foreign operations, certain government-backed mortgage bonds, real estate, oil exploration, public partnerships, and many other types of investments. A revised 1099 is not late. Rather, it reflects the reality of the modern world and the complications of having money.
Wealthy people who try to file early are setting themselves up for mistakes and the audits that they seek to avoid. The IRS expects taxpayers to pay their taxes on time, but provides sufficient time for returns to be accurately completed. We accomplish paying on time through the mechanism of safe harbor.
In general, the IRS will not penalize you for underpayment if, by the deadline:
- You pay at least 90% of the tax you owe this year or 100% of what you owed last year
- You owe less than $1,000 after subtracting withholdings and credits
Taxpayers with an Adjusted Gross Income of greater than $150,000 ($75,000 filing separately), need to pay the lower of 90% of current taxes or 110% of what they owed last year. We accomplish this through our estimated-tax payments.*
Personally, I prefer not to impose stressful deadlines on myself. I would rather pay 110% of last-years taxes and give myself time to make sure that my return is done meticulously and correctly. Overpayments for last year can be always be applied against taxes this year. W-2 employees, on the other hand, should continue to be early filers.