The Final Countdown for Retirees with Investment Income

Even if you withhold taxes on your retirement benefits, you might be surprised by an IRS estimated tax penalty at year-end.

That’s because income sources like capital gains, dividends, and interest are not eligible for automatic tax withholding. And retirees face a particular risk of incurring an IRS underpayment penalty since they don’t have an employer automatically withholding taxes on their behalf.

For example, the default withholding rate for a traditional IRA is 10%, which may not be enough to cover your total tax bill. You also can’t set up a state tax withholding on Social Security benefits, which could lead to more surprises come tax time (in states with a Social Security tax).

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Here’s how your retirement income could require you to pay quarterly estimated taxes by the September 15 deadline.

Retiree investment income and the tax deadline

The IRS requires you to pay federal income tax on a “pay-as-you-go” basis through two different methods:

• Tax withholding on income payments.
• Quarterly estimated tax payments.

Retired taxpayers may use tax withholding to fulfill their federal income tax payments on Social Security benefits, IRA withdrawals, and pensions and annuities.

However, not all taxable income is eligible for withholding.

Consequently, some retirees may be unaware of their obligation to make an estimated tax payment by the September 15 deadline. For example, that can happen when you receive significant investment income without tax withholding, like:

• Capital gains from selling stocks or bonds.
• High amounts of interest or dividends (where no taxes have been withheld).
• Gains from selling cryptocurrency.

If you have those types of investment income, you may need to calculate and pay estimated taxes by the September 15th deadline.

Note: Other unwithheld income sources, like royalties or freelancing, may also be subject to quarterly estimated tax payments; however, those income sources are typically less common among retirees compared to investment income. Consult with a tax professional if you are unsure whether you’re required to file a quarterly tax return.

Retirement income and quarterly estimated tax payments calculation

The deadline for the third-quarter estimated tax payment is September 15th. This payment covers income received between June 1st and August 31st. Taxpayers can choose between two main methods for calculating their quarterly estimated tax payments on income.

• The “Annualized Income” Method. For retirees with uneven income distribution throughout the year, this option provides a precise way to calculate each payment. This may help avoid an underpayment penalty if a large amount was received in one quarter but not in any of the others (like a capital gains distribution).
• The “Safe Harbor” Method. For a simpler calculation, retirees can pay four equal payments throughout the year. In total, the payments should be 100% of their total tax liability from the previous year (or 110% if their prior-year adjusted gross income (AGI) was over $150,000)*. This may be a preferable method for paying estimated tax if you receive steady interest payments or smaller investment payouts.

Retirees can calculate their estimated tax payments using Form 1040-ES. The IRS offers several payment options, including debit, credit card, digital wallet services, or the IRS Direct Pay online tool.

When you use an online payment like IRS Direct Pay or your IRS Online Account, the payment is automatically linked to your Social Security number. This may help speed up the processing time of your payment while avoiding potential processing fees associated with credit card or digital wallet payments.

For more information, check out Kiplinger’s report, How to Pay the IRS if You Owe Taxes.

*Note: The AGI threshold for married filing separately is $75,000.

IRS estimated tax penalty on quarterly payments

Unfortunately, if you don’t pay your quarterly estimated tax payment by the September 15 deadline, you may face an IRS underpayment penalty. This is even true when you plan to pay your full tax bill at the end of the year.

• The IRS underpayment penalty for failing to pay your estimated taxes on time is calculated using the federal short-term interest rate plus three percentage points. The IRS determines the rate quarterly.
• If you fail to pay by the September 15, 2025, deadline, you could be subject to an underpayment penalty of 7% interest, compounded daily, until you make the full payment.
• The quarterly estimated payment is calculated per quarter. If you underpay the September 15 deadline but then overpay the December 15 deadline, you’ll still be penalized for underpaying the third-quarter taxes.

How to avoid an underpayment penalty on retirement income estimated taxes

You may avoid an underpayment penalty for your estimated taxes if you meet the requirements for the IRS Safe Harbor rules.

• You owe less than $1,000 on your annual return (your total tax minus withholdings and any credits).
• You have paid 90% or more of the tax you owe for the current year through estimated payments and/or withholding.
• You’ve already paid at least 100% of the tax shown on your prior year return, OR
• You’ve paid 110% of the tax shown on your prior year return if you’re a high-income taxpayer (AGI is more than $150,000 or $75,000 for married filing separately filers).

Taxpayers who are recently retired and older than 62 (or disabled) may request an estimated tax penalty waiver from the IRS. But you must file Form 2210, Underpayment of Estimated Tax by Individuals, Estates, and Trusts, to show a “reasonable cause” for the underpayment.

Tax tips for retirees: Avoid the estimated tax penalty on investments

Retirees who can’t pay their full estimated tax payment may utilize strategies to minimize tax penalties (though interest may still accrue):

• Pay as much as you can. The IRS may reduce future penalties if you pay a portion of your estimated taxes and set up an IRS payment plan to pay the remaining balance.
• Increase tax withholding on your IRA or pension payments. By increasing withholding, you can pay off estimated tax underpayments and potentially eliminate penalties incurred in an earlier quarter. This is because the IRS treats tax withholdings as if they were paid evenly throughout the year — regardless of when they were actually withheld.
• Keep an eye on state tax withholding. States may have different rules for determining which income is subject to state tax withholding versus what must be paid through quarterly estimated tax payments. For example, you cannot automatically withhold state taxes on Social Security benefits. Be sure to visit your state’s Department of Revenue website for more information on estimated tax payment rules.

Also, if you’re a taxpayer living in a designated disaster area, you may have an extended IRS deadline for some 2025 estimated tax payments. Otherwise, your quarterly estimated tax payment is due September 15th.

Read More

• What is Net Investment Income Tax (NIIT) and Who Pays It?
• Withholding Tax from Social Security Benefits: What to Know
• When Are Estimated Tax Payments Due in 2025?
• States With 2025 IRS Tax Deadline Extensions