How W-2 withholding works — and where it falls short

When you work as an employee, your employer withholds federal income tax, Social Security, and Medicare from each paycheck based on the information you provided on your W-4. For most people with only W-2 income, this withholding is close enough to their actual liability that they owe little or nothing at filing time.

But withholding is calculated based on your wages alone. It does not account for income you earn outside of your job. If you also run a business, do consulting work, or receive income through an LLC, that income is generally not subject to any automatic withholding. You are responsible for paying the tax on it yourself — either through estimated payments or by adjusting your W-4 to withhold extra from your wages.

What estimated tax payments are

Estimated tax payments are quarterly payments you make directly to the IRS (and, separately, to your state) to cover income that is not subject to withholding. They are due four times per year, generally in April, June, September, and January.

The IRS generally expects you to pay at least 90% of your current year's tax liability, or 100% of the prior year's liability (110% if your prior year adjusted gross income was over $150,000), whichever is smaller. If you fall short of these thresholds, you may owe an underpayment penalty — even if you pay the full amount when you file.

Self-employment tax adds to the picture

W-2 employees split Social Security and Medicare taxes with their employer. Self-employed individuals — including sole proprietors and single-member LLC owners — pay both halves themselves. This is called self-employment tax, and it is currently 15.3% on net self-employment income up to the Social Security wage base, with 2.9% continuing above that threshold.

This means that if you earn $50,000 from a side business, you are not just looking at income tax on that amount. You are also looking at self-employment tax. Together, the combined liability can be meaningfully higher than people expect when they first start earning business income.

New York State adds another layer

New York State has its own estimated tax requirements that generally mirror the federal structure. If you expect to owe more than $300 in New York State income tax after withholding and credits, you are generally required to make estimated payments to the state as well. New York City residents face an additional city income tax, which also requires estimated payments when the liability is significant.

The New York State Department of Taxation and Finance provides guidance on estimated tax requirements and payment schedules. The deadlines generally align with federal deadlines, though there are some differences worth confirming each year.

Two ways to handle the gap

Option 1: Increase W-4 withholding

If your side income is relatively predictable, you can ask your employer to withhold additional federal and state income tax from each paycheck by updating your W-4. This can be simpler than tracking quarterly deadlines, and it spreads the payments evenly throughout the year.

Option 2: Make quarterly estimated payments

If your business income is variable or you prefer to manage the payments separately, you can make quarterly estimated payments directly to the IRS using Form 1040-ES and to New York State using Form IT-2105. This approach requires more active management but gives you more control over timing and cash flow.

Many people with both W-2 and business income use a combination of both approaches — adjusting withholding to cover a baseline and making estimated payments when business income is higher than expected.

Common mistakes

• Assuming W-2 withholding covers everything. It covers your wages. It does not cover your business income.
• Waiting until April to think about estimated taxes. By then, three of the four quarterly deadlines have already passed.
• Ignoring self-employment tax. For many people, it is a larger component of their liability than income tax on the same dollars.
• Forgetting New York State and New York City estimated payments. Federal and state are separate obligations with separate payment systems.
• Using last year's income to estimate this year's payments when income has changed significantly.

What to do next

If you have W-2 income and business income and you are not sure whether your current withholding is sufficient, the most useful first step is to estimate your total tax liability for the year — including both income tax and self-employment tax — and compare it to what your employer is withholding. If there is a meaningful gap, you have options for closing it before the next quarterly deadline.

A CPA can help you work through the calculation, determine whether you are on track, and decide whether adjusting your W-4 or making estimated payments makes more sense for your situation.