Estimated Payments vs. Withholding: Paying your Taxes Made Simple

Travis Tsukayama, CFP® CFA
Aug 6, 2025
6 min read

Updated: Oct 1, 2025

There is usually a period of calm in tax planning conversations around this time of year. By the time August rolls around, we are well past the April 15th tax filing date. The deadline for individuals taking an extension isn’t until October 15th. Aside from estimated tax payment deadlines (January 15, April 15, June 15, September 15), taxes take a spot on the backburner for most retirees.

There is a practical reason for this too. Many tax planning strategies will be done in the last few months of the year, when we have a clearer estimate of income. Many people are traveling during the Summer months (advisors too!) and it will be another month or so before the tax planning really heats up.

This is a good time to take a step back and think about how you pay your taxes. For retirees no longer working, their taxes are usually paid through making estimated payments or withholding from income. Many people choose to simplify their tax situation by prioritizing one of these over the other; more on that later.

Before implementing any tax strategies later this year, or if you want to simplify your tax payments for next year, let’s dive into the different ways taxes are paid.

Pay What you Owe, but Minimize your Lifetime Tax Bill

First, let me share our philosophy on paying taxes. I think all taxpayers should pay every cent of what they owe to the IRS and state tax collector.

Tax planning shouldn’t be confused with tax avoidance.

With that said, good tax planning should seek to reduce your taxes. And it’s not simply trying to get back the largest refund possible.

The basis of all our tax planning is minimizing your lifetime tax bill.

That means we look at your current and projected future income to guide tax strategy.

If you take retirement withdrawals and Social Security and pension income, it’s likely you’ll owe some federal and state taxes. Let’s look at two common ways people pay their taxes.

Making Estimated Tax Payments

Some retirees prefer paying their taxes this way.

How it works:

First you need to estimate your tax liability for the year. Consider your income, deductions, tax credits, and any withholding. Divide the remaining tax into four equal quarterly payments and pay by the deadline.
You can pay online through IRS Direct Pay, the IRS2Go App, sending a check with a voucher, and even credit card (processing fees apply).

One of the drawbacks with making estimated payments is that you need to remember the deadlines. And as we’ll see later, not paying enough can result in penalties even if it’s paid on time.

Another disadvantage is the attention that needs to be paid to your tax situation during the year. If not followed closely, you may be left with penalties and a large tax bill due during your filing. Some prefer to hire a CPA to keep track of estimated payments, which reduces the time spent on it but increases cost.

We’ve covered some of the downsides. Certain types of retirees should be making estimated tax payments:

If you have large capital gains from selling a business, selling appreciated investments, or selling your home. The estimated payments are necessary because your income and taxes are higher than normal.
Those with significant investment income. If you generate a lot of income from your taxable account, you will want to make estimated payments to cover your tax liability. A common tax landmine is higher interest income in the year you redeem long-term treasury bonds, increasing your tax bill that year.
If you did a Roth conversion, pay for the tax bill from a separate account instead of tax withholding. You want to maximize the amount of money that gets converted into Roth for more tax-free investment growth.

Withholding Directly from Income

The second way people pay their taxes is through withholding.

How it works:

First, determine an appropriate percentage of withholding based on your estimated income and tax liability.
Taxes are taken out (withheld) from your income before you receive it.
It is sent directly to the IRS (or state government) on your behalf to be credited towards your tax bill.
If you withheld too much, you get a refund. If you didn’t withhold enough, you will owe the balance.
The IRS views withholding as paid evenly throughout the year. This helps avoid the headache of making estimated quarterly payments based on when the income was earned.

That’s it!

Well, almost. Setting a withholding percentage once and never adjusting it rarely works out well. This is because even if the amount of your income doesn’t change, sometimes your tax bracket or tax law affecting your credits and deductions do.

Withholding is less flexible than making estimated payments. If your income changes significantly during the year, you need to make adjustments to your withholding percentage.

If you withhold too much, you are due a large refund at tax filing. It might feel like a victory against the IRS when the check arrives but remember that they don’t pay you interest for holding onto your money if they process the refund on time.

You should be withholding to pay taxes in the following situations:

Your retirement income is consistent and predictable (pension, Social Security, IRA distributions). If this is the case, you simplify your tax situation by setting a percentage of withholding from each of the income sources. No estimated payments and, when done correctly, no underpayment penalties.
You want to avoid making estimated quarterly payments. By withholding your taxes, you avoid the quarterly payment deadlines and the risk of underpayment penalties.
You forgot to make your quarterly tax payments. If you waited until year-end to withdraw from your IRA (or take your RMD), you can increase your withholding to cover the missed payments and avoid penalty.

Safe Harbor: How to Avoid Underpayment Penalties

Whether you make estimated payments or withhold taxes, you want to avoid any tax penalties. Underpayment penalties apply if you didn’t pay enough tax throughout the year.

It’s time to introduce the IRS safe harbor rule. You are exempt from underpayment penalties if your total tax payments equal:

100% of the amount of last year’s tax liability
90% of the current year’s tax liability

If your Adjusted Gross Income in the previous year exceeds $150,000, you must pay 110% of last year’s tax to meet the safe harbor. This threshold applies to both single and joint tax filers.

Example:

Prior year tax: $35,000
This year’s tax: $40,000
Prior year Adjusted Gross Income = $180,000
Safe harbor is met at the lower of 110% of last year’s tax or 90% of this year’s tax
Safe harbor tax payment this year = $40,000 * 90% = $36,000 (the lower of the two safe harbor options)

The result: By planning ahead to meet your safe harbor tax payment for the year, you can keep your taxes simple and avoid underpayment penalties.

Which Method of Paying Your Taxes is Better?

As we detailed in the earlier sections, making estimated payments and withholding each have their advantages and downsides. Which is better? The answer to this question comes down to preferences and which method suits your unique situation.

If your income is unpredictable or you are facing upcoming capital gains, making estimated payments is a great way to control the timing and amount of your tax payments.

If you are retired and have stable income from pension, Social Security, and IRAs, withholding can simplify your taxes and be more effective in avoiding underpayment penalties since it’s considered as paid evenly throughout the year.

For many of the retirees we work with, they end up doing both! Withholding taxes is often their preferred method because it’s simple and effective. They choose to replace quarterly payments with automatic withholding that goes directly to the IRS. The risk of penalty is greatly reduced if safe harbor requirements are met.

With their withholding system in place, they still have the option of making an estimated payment if there is a significant tax event (think Roth conversion or large capital gain). It’s common to use both methods in tandem to meet safe harbor requirements.

I focused primarily on federal taxes in this article. Keep in mind that many states have their own income tax requirements and payment methods. Consult your local CPA for guidance on meeting your state and federal tax obligations.

That’s all for now. Talk soon!

Travis

Investment advisory services offered through Andrews Advisory Associates LLC, a registered investment advisor. This blog is not meant to give investment advice. Before investing in any advisory product please carefully read any disclosure documents, including without limitation, the firm’s Form ADVs. The information herein is provided for informational purposes only, and does not constitute an offer, solicitation or recommendation to sell or an offer to buy securities, investment products or investment advisory services. Nothing contained herein constitutes financial, legal, tax, or other advice. These opinions may not fit your financial status, risk and return profile or preferences. Investment recommendations may change, and readers are urged to check with their investment adviser before making any investment decisions.

Before implementing any tax strategies later this year, or if you want to simplify your tax payments for next year, let’s dive into the different ways taxes are paid.

Pay What you Owe, but Minimize your Lifetime Tax Bill

First, let me share our philosophy on paying taxes. I think all taxpayers should pay every cent of what they owe to the IRS and state tax collector.

Tax planning shouldn’t be confused with tax avoidance.

With that said, good tax planning should seek to reduce your taxes. And it’s not simply trying to get back the largest refund possible.

The basis of all our tax planning is minimizing your lifetime tax bill.

That means we look at your current and projected future income to guide tax strategy.

If you take retirement withdrawals and Social Security and pension income, it’s likely you’ll owe some federal and state taxes. Let’s look at two common ways people pay their taxes.

Making Estimated Tax Payments

Some retirees prefer paying their taxes this way.

How it works:

First you need to estimate your tax liability for the year. Consider your income, deductions, tax credits, and any withholding. Divide the remaining tax into four equal quarterly payments and pay by the deadline.

You can pay online through IRS Direct Pay, the IRS2Go App, sending a check with a voucher, and even credit card (processing fees apply).

One of the drawbacks with making estimated payments is that you need to remember the deadlines. And as we’ll see later, not paying enough can result in penalties even if it’s paid on time.

We’ve covered some of the downsides. Certain types of retirees should be making estimated tax payments:

If you have large capital gains from selling a business, selling appreciated investments, or selling your home. The estimated payments are necessary because your income and taxes are higher than normal.

If you did a Roth conversion, pay for the tax bill from a separate account instead of tax withholding. You want to maximize the amount of money that gets converted into Roth for more tax-free investment growth.

Withholding Directly from Income

The second way people pay their taxes is through withholding.

How it works:

First, determine an appropriate percentage of withholding based on your estimated income and tax liability.

Taxes are taken out (withheld) from your income before you receive it.

It is sent directly to the IRS (or state government) on your behalf to be credited towards your tax bill.

If you withheld too much, you get a refund. If you didn’t withhold enough, you will owe the balance.

The IRS views withholding as paid evenly throughout the year. This helps avoid the headache of making estimated quarterly payments based on when the income was earned.

That’s it!

Well, almost. Setting a withholding percentage once and never adjusting it rarely works out well. This is because even if the amount of your income doesn’t change, sometimes your tax bracket or tax law affecting your credits and deductions do.

Withholding is less flexible than making estimated payments. If your income changes significantly during the year, you need to make adjustments to your withholding percentage.

If you withhold too much, you are due a large refund at tax filing. It might feel like a victory against the IRS when the check arrives but remember that they don’t pay you interest for holding onto your money if they process the refund on time.

You should be withholding to pay taxes in the following situations:

Your retirement income is consistent and predictable (pension, Social Security, IRA distributions). If this is the case, you simplify your tax situation by setting a percentage of withholding from each of the income sources. No estimated payments and, when done correctly, no underpayment penalties.

You want to avoid making estimated quarterly payments. By withholding your taxes, you avoid the quarterly payment deadlines and the risk of underpayment penalties.

You forgot to make your quarterly tax payments. If you waited until year-end to withdraw from your IRA (or take your RMD), you can increase your withholding to cover the missed payments and avoid penalty.

Safe Harbor: How to Avoid Underpayment Penalties

Whether you make estimated payments or withhold taxes, you want to avoid any tax penalties. Underpayment penalties apply if you didn’t pay enough tax throughout the year.

It’s time to introduce the IRS safe harbor rule. You are exempt from underpayment penalties if your total tax payments equal:

100% of the amount of last year’s tax liability

90% of the current year’s tax liability

If your Adjusted Gross Income in the previous year exceeds $150,000, you must pay 110% of last year’s tax to meet the safe harbor. This threshold applies to both single and joint tax filers.

Example:

Prior year tax: $35,000

This year’s tax: $40,000

Prior year Adjusted Gross Income = $180,000

Safe harbor is met at the lower of 110% of last year’s tax or 90% of this year’s tax

Safe harbor tax payment this year = $40,000 * 90% = $36,000 (the lower of the two safe harbor options)

The result: By planning ahead to meet your safe harbor tax payment for the year, you can keep your taxes simple and avoid underpayment penalties.

Which Method of Paying Your Taxes is Better?

As we detailed in the earlier sections, making estimated payments and withholding each have their advantages and downsides. Which is better? The answer to this question comes down to preferences and which method suits your unique situation.

If your income is unpredictable or you are facing upcoming capital gains, making estimated payments is a great way to control the timing and amount of your tax payments.

If you are retired and have stable income from pension, Social Security, and IRAs, withholding can simplify your taxes and be more effective in avoiding underpayment penalties since it’s considered as paid evenly throughout the year.

With their withholding system in place, they still have the option of making an estimated payment if there is a significant tax event (think Roth conversion or large capital gain). It’s common to use both methods in tandem to meet safe harbor requirements.

I focused primarily on federal taxes in this article. Keep in mind that many states have their own income tax requirements and payment methods. Consult your local CPA for guidance on meeting your state and federal tax obligations.

That’s all for now. Talk soon!

Travis