Currently, self-employed individuals are solely responsible for setting aside the funds they need to pay their estimated taxes. These taxes cover income tax, self-employment tax, the additional Medicare taxes on earned income and investment income, and certain other taxes.
Making sure that there are sufficient funds for tax payments four times a year has been challenging for many self-employed individuals, especially those with cash flow issues. There may be a solution in the near future.
The IRS has issued proposed and temporary regulations expressing the government’s authority to allow for voluntary withholding agreements between a person making and person receiving payments. It’s too soon to guess what the voluntary withholding rates may be or other particulars for this withholding. However, once in place, this withholding option could be used to replace estimated taxes for self-employed individuals.
Is this a good or bad thing?
Since the withholding would be voluntary, it would not impose any requirement on those who prefer to continue their quarterly estimated tax payments. (It is unclear at this time whether businesses would be required to withhold if a contractor requests it, which is something that would be burdensome to small businesses.)
There had been attempts at mandatory withholding in the past, such as 3% withholding on payments to government contractors; this rule was repealed before it ever went into effect.
For self-employed individuals who lack the foresight to save cash needed to make tax payments, the withholding option would be helpful.
Let’s reserve judgment until the details come in.