Some Extra Withholding Now Can Ease the Pain in April

Though the market's looked bleak recently, some investors have banked big gains this year. If you're one of them, it's time to start thinking about how to pay the taxes on those gains.

If you're a salaried employee, consider jacking up your payroll withholdings for the rest of the year to cover the tax rather than making a lump-sum estimated payment. And if you're part of an S corporation, like many traders, a recent Internal Revenue Service release points out that you can issue yourself a year-end paycheck and withhold the entire amount to cover your annual tax bill without incurring penalties.

Both of these techniques are exceptions to the general IRS rule that requires you to pay your taxes in equal portions throughout the year. That's why you have taxes withheld from your paycheck each pay period rather than writing a big check at tax time. (Though if you calculate wrongly, you may end up doing both.) In addition, people who make estimated tax payments are required to pay them in equal installments throughout the year. If you make a big payment in the third quarter, for example, but didn't pay a thing in the first two, you may owe interest and penalties for not paying regularly throughout the year.

The great thing about increasing your payroll withholdings at year-end is that the IRS assumes the payments were made evenly throughout the year, says Martin Nissenbaum, director of income tax planning at Ernst & Young. So if you've been underwithholding all year and you decide to do something about it in the fourth quarter, you can give up one whole paycheck or more if you need to without a peep from the IRS. And if you have a big capital gain, a surprise inheritance or an IRA-to-Roth IRA conversion, increasing your late-year withholding may be the way to go. ...