What is an Underpayment Penalty?

An underpayment penalty is an IRS charge that may apply when an individual, estate, or trust does not pay enough federal tax during the year through withholding, estimated tax payments, or both.

The IRS generally checks whether taxpayers paid the required amount by each estimated-tax installment due date. Paying the final tax balance by the return deadline does not necessarily eliminate an earlier underpayment. (Source)

An underpayment occurs when those payments fall below the amount required for a particular payment period.

The IRS focuses on:

How much the taxpayer paid and when the taxpayer paid it, rather than looking only at the final balance shown on the tax return.

For calendar-year taxpayers, estimated-tax installments generally fall due on April 15, June 15, September 15, and January 15 of the following year. Weekend and federal holiday rules can move a deadline to the next business day.

When Does the IRS Charge an Underpayment Penalty?

The IRS may charge the penalty when a taxpayer does not pay enough tax for a required installment or pays that installment late.

Not Enough Tax Was Paid During the Year

A taxpayer may fall short when withholding and estimated tax payments do not keep pace with the tax due for the year.

Common causes include:

Higher self-employment income,
Investment gains,
Reduced withholding, or
Another change that increases taxable income without a corresponding increase in tax payments.

Estimated Tax Payments Were Made Late

The IRS evaluates estimated-tax installments by payment period.

If a taxpayer does not pay enough by an installment's due date, the IRS may charge a penalty for that period.

Later payments may cover the annual tax liability, but they do not automatically erase the earlier underpayment.

The IRS generally applies a later payment first to an earlier outstanding underpayment before applying it to a later installment.

As a result, one late or insufficient payment can affect the penalty calculation across more than one period. (Source)

How Much Must You Prepay to Avoid an Underpayment Penalty?

Most individual taxpayers generally avoid the federal underpayment penalty if they meet either of these conditions:

They owe less than $1,000 on the filed tax return after subtracting federal withholding and refundable credits; or
Their withholding and timely estimated payments equal at least the required annual payment, which is generally the smaller of:
- 90% of the current-year tax, or
- 100% of the prior-year tax.

Certain higher-income taxpayers generally must substitute 110% of prior-year tax for the 100% test. The prior-year return generally must cover a full 12-month tax year. (Source)

For the 2026 tax year, the 110% threshold generally applies when adjusted gross income on the 2025 return exceeded $150,000, or $75,000 for a taxpayer using the “Married Filing Separately” status.

The applicable prior-year AGI should always be checked against the instructions for the tax year being calculated.

For certain higher-income taxpayers, prior-year adjusted gross income (AGI) determines whether the 110% prior-year safe harbor applies. AGI itself is not the amount the taxpayer must prepay.

Taxpayers can use Form 1040-ES, Estimated Tax for Individuals, and Publication 505, Tax Withholding and Estimated Tax to estimate their required payments.

What is the Safe Harbor for an Underpayment Penalty?

An estimated tax safe harbor provides a payment target that can protect a taxpayer from the underpayment penalty even when the final tax liability exceeds the amount prepaid.

The primary safe-harbor tests compare timely payments with current-year tax or prior-year tax.

For the complete calculation of the 90%, 100%, and 110% rules, see CPA Pilot's Estimated Tax Safe Harbor guide.

Can You Avoid the Penalty If You Had No Tax Liability Last Year?

The prior-year exception generally prevents the underpayment penalty when a taxpayer:

Had no prior-year tax liability;
Was a U.S. citizen or resident alien for the entire prior year; and
Had a prior tax year covering all 12 months.

This exception addresses the estimated-tax underpayment penalty. It does not eliminate other federal tax-payment obligations that may apply during the year. (Source)

Do Farmers & Fishermen Have Different Underpayment Rules?

Yes. The IRS provides special estimated-tax rules for qualifying farmers and fishermen.

If at least two-thirds of the taxpayer's gross income for the current or preceding tax year comes from farming or fishing, the taxpayer may generally use 66⅔% of current-year tax instead of the standard 90% current-year test. (Source)

A qualifying farmer or fisherman may generally avoid the estimated-tax penalty by filing the return and paying the entire tax due by March 1 of the following year. If the taxpayer does not use that rule, the estimated tax is generally due by January 15 of the following year, subject to weekend, holiday, and tax-year-specific rules.

Qualifying taxpayers can use Form 2210-F, Underpayment of Estimated Tax by Farmers and Fishermen, to determine whether they owe a penalty.

How is the Underpayment Penalty Calculated?

The IRS calculates the penalty separately for each required installment.

The calculation of the underpayment penalty considers:

The underpayment amount;
The date the installment was due;
How later payments apply to earlier underpayments;
How long the shortfall remained unpaid; and
The IRS underpayment rate that applied during that period.

Because the IRS evaluates each installment separately, taxpayers should not calculate the penalty by applying one percentage to the final year-end balance.

What is the IRS Underpayment Penalty Rate?

The IRS sets the underpayment rate quarterly.

For example, the individual underpayment rate is 7% per year for the quarter beginning October 1, 2026. Earlier or later quarters may use different rates. (Source)

The IRS applies the applicable rate according to the number of days the underpayment remains unpaid.

Taxpayers should follow the Form 2210 instructions and the IRS quarterly interest-rate table for the relevant tax year rather than applying one annual rate to the entire balance.

IRS interest rates and Form 2210 instructions are tax-year specific. Always confirm the rate and rules for the year being calculated.

What is Form 2210 & When Is It Used?

Form 2210, Underpayment of Estimated Tax by Individuals, Estates, and Trusts, helps determine whether a taxpayer owes an estimated-tax underpayment penalty and can support special penalty calculations.

The IRS generally calculates the penalty and sends a notice when one is due. A taxpayer may use or attach Form 2210 when the taxpayer:

Requests a waiver;
Uses the annualized income installment method;
Elects to treat withholding according to the actual withholding dates;
Chooses to calculate the penalty independently; or
Meets another filing condition listed in the Form 2210 instructions.

Taxpayers therefore do not automatically need to file Form 2210 simply because they had an underpayment.

What is Schedule AI on Form 2210?

Schedule AI supports the annualized income installment method within Form 2210.

The schedule calculates required installments according to when a taxpayer actually earned income, instead of assuming that the taxpayer earned income evenly throughout the year.

Schedule AI does not automatically eliminate an underpayment penalty. It may reduce or eliminate the penalty when uneven income caused the standard installment method to overstate what the taxpayer should have paid during an earlier period.

Can Uneven Income Reduce an Underpayment Penalty?

Yes. The annualized income installment method may reduce an underpayment penalty when a taxpayer earns income unevenly throughout the year.

This method may help taxpayers who receive income from:

Seasonal business activity;
Irregular self-employment work;
A large capital gain later in the year;
Bonuses; or
Another income event concentrated in one part of the year.

The annualized method aligns required installments more closely with the periods in which the taxpayer earned the income. Taxpayers who use it generally complete Form 2210 and Schedule AI. (Source)

A taxpayer may also reduce the calculated penalty when most federal income tax was withheld earlier in the year rather than evenly throughout the year.

Form 2210 allows taxpayers to show the actual timing of withholding when the applicable filing requirements are met.

Can the IRS Waive an Underpayment Penalty?

The IRS may waive all or part of an underpayment penalty in limited circumstances.

A taxpayer may qualify when:

A casualty, disaster, or other unusual circumstance caused the underpayment and charging the penalty would be inequitable; or
The taxpayer retired after reaching age 62 or became disabled during the relevant tax year or the preceding tax year, and reasonable cause rather than willful neglect caused the underpayment.

Ordinary reasonable cause by itself does not generally create the same broad penalty-relief rule that applies to some other IRS penalties.

Taxpayers who request an underpayment-penalty waiver generally use Form 2210 and provide the required explanation and supporting information. The IRS may also announce separate relief for federally declared disasters.

Underpayment Penalty vs. Failure-to-Pay Penalty

These penalties address different stages of the tax-payment process.

Underpayment Penalty	Failure-to-Pay Penalty
Applies when required estimated-tax payments or withholding were insufficient or late during the year	Applies when tax remains unpaid after the applicable payment deadline
Relates to pay-as-you-go tax obligations	Relates to an unpaid return balance
Form 2210 may apply	Separate IRS penalty rules apply
Can arise before the annual return becomes due	Generally arises after tax remains unpaid past its due date

The two penalties can apply to the same taxpayer for the same tax year: One for insufficient or late payments during the year and another for an unpaid balance after the tax-payment deadline.

How Can You Avoid an Underpayment Penalty?

Taxpayers can reduce underpayment risk by adjusting tax payments when income or other tax circumstances change.

Useful steps include:

Review federal withholding after significant income or life changes;
Make estimated tax installments by their applicable due dates;
Recalculate expected tax after a major income change;
Check the applicable current-year or prior-year safe harbor; and
Use tax projections when income varies during the year.

Employees who need to adjust wage withholding can submit a new Form W-4, Employee's Withholding Certificate, to their employer.

Taxpayers who need to calculate estimated payments can use Form 1040-ES and Publication 505.

For forward-looking planning, CPA Pilot's AI Tax Projections can support tax-projection workflows when income, withholding, or estimated-payment needs change during the year.

Underpayment Penalty FAQs

Can You Owe an Underpayment Penalty Even If You Get a Tax Refund?

Yes. The IRS evaluates required installments by payment period. A taxpayer may underpay an earlier installment and later make enough payments to receive a refund, but the earlier shortfall can still produce a penalty.

Can You Owe an Underpayment Penalty If You Pay Your Full Tax Bill by April 15?

Yes. Paying the final balance by the return payment deadline does not automatically eliminate an underpayment from an earlier estimated-tax period. The IRS considers whether the taxpayer paid each required amount on time.

Does Federal Tax Withholding Count Toward Avoiding an Underpayment Penalty?

Yes. Federal withholding counts toward the tax paid during the year. The IRS combines applicable withholding with estimated tax payments when determining whether a taxpayer met the required payment amount.

Does a Tax Filing Extension Prevent an Underpayment Penalty?

No. A filing extension generally gives a taxpayer additional time to file the return, not additional time to pay tax or satisfy earlier estimated-tax installment requirements. An underpayment penalty can therefore arise even when the taxpayer files the return within an approved extension period.

Are State Underpayment Penalties the Same as the Federal Underpayment Penalty?

No. This glossary page covers the federal underpayment of estimated tax penalty administered by the IRS. State tax agencies establish their own estimated-payment thresholds, due dates, rates, forms, exceptions, and penalty rules.