We’ll discuss these quirks in a series of blog posts over the coming months. These posts are excerpts from a CPE presentation I give to tax professionals on this topic.
(This presentation is broken into a series of “issues.” This is Issue 13.)
Issue 13: Federal Withholding and Estimated Tax Payments
Iowa allows a deduction for federal tax withholdings, estimated federal tax payments, and federal taxes paid with the federal tax return.
Federal withholding from a W-2 or 1099 is reported by the spouse to whom the W-2 or 1099 relates. But estimated payments can be trickier.
The deduction for federal estimated tax payments is NOT always claimed 100% by the spouse who made the payment. Additionally, joint estimated payments are NOT always split 50/50.
Instead, the deduction is allocated based on the ratio of income not subject to income tax withholding.
Angie and Alex are a married couple filling separately on a combined Iowa return. Angie’s income consists of $50,000 of W-2 wages. Alex is self-employed and has net income of $40,000. They have a joint savings account that generated $100 of interest income during the year. Alex made $16,000 of federal estimated tax payments, in his name only, and paid 100% out of his sole proprietorship’s separate business account.
Common sense would say Alex would deduct the full $16,000 of estimated tax payments on his Iowa return. But common sense would be wrong!
The $16,000 estimated tax payment is NOT deducted 100% by Alex. Instead, you must allocate based on income not subject to withholding. In the case of Angie and Alex, they have $40,100 not subject to withholding — Alex’s self-employment income of $40,000, and the $100 of interest income. The interest income is from a joint account and so is split 50/50, so Angie and Alex each claim $50 of it.
Even though Alex made 100% of the estimated tax payment out of his own separate funds and in his name only, his allocation of the $16,000 payment is $15,980. Angie is allocated $20 of the estimated tax payment.
Here’s the calculation:
- Alex’s share of income not subject to withholding = $40,000 self-employment income plus $50 interest income = $40,050
- $40,050 / $40,100 = 99.88% x $16,000 = 15,980.
- Angie’s share of income not subject to withholding = her $50 share of the interest income. $50 / $40,100 = 0.12% x $16,000 = $20.
Obviously the allocation difference of $20 in this example is trivial. But let’s look at an example where the difference would be more substantial:
Let’s say Angie is retired and draws income from IRAs, as well as $15,000 of interest and dividends. Taxes are withheld from the IRA withdrawals but not from the interest or dividends.
Assume that these investments are titled in her name only. In addition to the IRA withholding, she also makes $5,000 of estimated tax payments during the year. Alex has not yet retired and still makes $40,000 from his sole proprietorship and pays in $16,000 of estimated tax payments.
The total amount of income not subject to withholding is $55,000 — Angie’s $15,000 of dividends and interest and Alex’s $40,000 of self-employment income.
Angie’s percentage of the $55,000 is 27.27% ($15,000 / $55,000) and Alex’s share is 72.73% ($40,000 / $55,000).
In total, they made $21,000 of estimated tax payments — $5,000 by Angie and $16,000 by Alex.
Angie deducts $5,727 of the estimated tax payments ($21,000 x 27.27%), while Alex deducts $15,273 ($21,000 x 27.27%).