In the jargon of US tax legislation, taxpayers must understand the peculiarity surrounding estimated taxes and penalties to stay in sync without unauthorized charges. Among some exceptions of the penalty for estimated taxes is the “no tax liability” principle.
Gaining estimated tax payments
The US tax system is pay-as-you-go, i.e., the tax should be paid as one gets or earns it in a year. It is usually made in withholding of wages or installments under estimated tax payment. Estimated tax payment is composed of regular payments to the Internal Revenue Service (IRS) on non-withheld income, such as income from self-employment, interest, dividends, alimony, or rent. Not paying sufficient tax as one goes along the year will result in an underpayment penalty.
What is “No Tax Liability”
The IRS provides an exception from the estimated tax penalty to individuals who owed little or no tax in the previous year. The IRS states, “You had no tax liability last year if your total tax was zero or you weren’t required to file an income tax return.” That is, if a taxpayer owes no tax or is not required to file a return for last year, they can be eligible for not paying this year’s estimated tax penalties.
Conditions for the “No Tax Liability” exception
To qualify for this exception, there are some requirements to be met:
- Zero total tax in previous year: If the figure on Form 1040 or Form 1040-SR designated as “total tax” is zero in the last year, it indicates that there was no tax owed.
- No return required age last year: Taxpayers whose gross income was below the filing requirement did not need to file an income tax return. The levels of filing requirements vary on the basis of filing status, age, and dependents. For more details about filing requirements, refer to the “Who Must File” section in IRS Publication 501.
- 12-Month taxable year: The previous tax year should have been a complete 12 months.
- US residence or citizenship: He or she must have been a resident or citizen of the US in the prior tax year.
Meeting all these is required to qualify for the “no tax liability” exception.
Illustrative example
Let Jane be a resident of the United States in 2023 with some very minor income below the filing threshold and did not need to file her tax return.
She started freelancing in 2024 with expectations of increased income. As she is in “no tax liability” status during 2023, Jane will be exempt from estimated tax penalties in 2024 if she meets the continuing requirements. However, so that she will not owe significant tax when she files her 2024 return, it is recommended that Jane make estimated tax payments during 2024.
Exceptions to the estimated tax penalty
Aside from the “no tax liability” exception, the IRS adds that there are other situations in which taxpayers will not be subjected to the estimated tax penalty:
- Recent retirees or disabled individuals: In case you or your spouse retired recently after 62 or were recently disabled and had a good reason for the underpayment, you can get an exception.
- Annual payment thresholds: Taxpayers can typically avoid the penalty if they are less than $1,000 in tax after withholding and refundable credits are deducted. Or, if they made withholding an estimated tax of at least 90% of current year tax or 100% of last year tax, whichever is smaller, they can avoid the penalty.
Avoiding the underpayment penalty
To prevent the underpayment penalty, taxpayers must ensure they meet either of the following safe harbor rules:
- 90% rule: Pay a minimum of 90% of this year’s tax liability in withholding, estimated taxes, or a combination of both.
- 100% rule: Pay 100% of the tax owed on last year’s return. But for those with an adjusted gross income (AGI) level that exceeds $150,000, it is 110%.
These provisions are flexible for taxpayers when handling tax obligations and protect them from unjustified penalties.
Recent trends and considerations
During the tax year 2025, there are several trends that may influence taxpayers:
- Increased Penalty Rates: The IRS has raised penalty rates for underpayment, emphasizing the requirement to make reasonable estimates of taxes. Taxpayers are encouraged to adjust their withholdings or pay estimated taxes on time to avoid the imposition of these penalties.
- Enhanced web services: The IRS has enhanced its web portals so that taxpayers can easily log in, monitor refund status, and pay taxes. It is recommended to create an online account to be kept updated and to protect tax data.
- Requirements to Report Online Sellers: Taxpayers selling merchandise online must also notice new report requirements. Larger reporting of 1099-K forms can be expected on internet sales over $5,000, down from the previous rate of $20,000. The change will make sure that reporting income and tax compliance are consistent.
