What the IRS Data Says About How Much You Should Be Setting Aside for Taxes
If your household income puts you in the top 5% of earners, plan on your federal income tax landing somewhere between roughly 19% and 26% of your income. Your paycheck withholding plus any quarterly estimated payments should add up to about that much over the year.
Hitting that target is not a one-time calculation. Withholding and quarterly payments are set from what we know at a point in time. When income or deductions change during the year and we don't hear about it, the targets drift, and the result shows up as an unexpected balance due at filing. The best protection is regular communication with us throughout the year.
What the IRS data shows
The average federal income tax rate rises steadily with income, from 3.7% for the bottom half of filers to 26.3% for the top 1%.
These are average rates: total federal income tax divided by adjusted gross income. They are not the bracket rate on your last dollar, which can be 32% to 37% for high earners. Deductions, lower rates on qualified dividends and long-term gains, and the lower brackets all pull the average down.
For most of our clients, the two right-hand bars are the ones that matter. In 2023, it took adjusted gross income (AGI) of about $272,000 to reach the top 5% of filers and about $676,000 to reach the top 1% (Tax Foundation). If your AGI falls in that range or above, your realistic all-in federal income tax bill is about 19% to 26% of your income, and it climbs toward the higher end as income rises.
Why high earners end up owing
Payroll withholding is built for a simple tax picture, and high-income households rarely have one. The most common gaps we see:
Bonuses and supplemental pay are often withheld at a flat 22% federal rate, even when your actual average rate on that income is closer to 26% or more.
Two high-earning spouses each have withholding calculated as if their paycheck were the household's only income, so the combined tax ends up higher than either W-4 assumed.
Business, partnership and S corporation income has no withholding at all. Practice owners often take a modest salary and receive most of their income as distributions.
Investment income from dividends, capital gains, interest and rentals arrives with nothing withheld. Above certain thresholds it also carries the 3.8% net investment income tax.
Additional Medicare tax of 0.9% applies to wages above $200,000 ($250,000 joint), and employers only withhold it on your own paycheck above $200,000, not on your combined household wages.
Each of these is manageable. Together, they can leave a household that "had taxes taken out" tens of thousands of dollars short.
The rule of thumb: pay in 19% to 26% of income
If you are in the top 5%, add up your federal withholding and estimated payments for the year. That total should generally fall between 18.7% and 26.3% of your expected income. Lean toward the low end near the 5% line and toward the high end as you move into the top 1%.
Here is a simple example for a practice-owner household expecting $600,000 of income:
Expected income: $600,000
Target paid in (about 22%): $132,000
Federal withholding from W-2 wages: $70,000
Shortfall to cover with estimates: $62,000
Quarterly estimated payment: $15,500
Without those quarterly payments, this household would owe about $62,000 in April, plus an underpayment penalty.
This is a starting point, not a substitute for a projection. Your actual rate depends on your mix of wages, business income and investments, your deductions, and your state.
Don't forget state taxes. The 19% to 26% range covers federal income tax only. Any state income tax you owe comes on top of it, so your overall tax picture is the federal amount plus your state amount. The good news is that many states use a flat rate, or one close to flat, which makes the state share easier to estimate. Multiply your expected state taxable income by your state's rate, and set state withholding or state estimated payments to cover it the same way you do for federal.
Safe harbor avoids the penalty, not the bill
The IRS waives the underpayment penalty if you pay in at least 90% of this year's tax or 100% of last year's. If last year's AGI was over $150,000 ($75,000 married filing separately), that second test rises to 110% of last year's tax.
Safe harbor is valuable, but it is based on last year. If your income grew, you can meet safe harbor and still owe a large balance in April. Tracking the 19% to 26% range keeps both the penalty and the surprise off the table.
Practical steps:
Project your income early in the year, so withholding and quarterly targets start from a realistic number.
Adjust your W-4 to add extra withholding per paycheck. Withholding counts as paid evenly through the year, even when it comes in December.
Make quarterly estimated payments on April 15, June 15, September 15 and January 15 to cover income with no withholding.
Tell us about material changes when they happen, not at filing time. A raise or bonus, a new practice or associate arrangement, a large distribution, the sale of a business, property or investments, a big equipment purchase, a change in charitable giving, or a spouse changing jobs can all move your tax. Each one is a reason to call so we can reset your withholding and quarterly targets while there is still time to act.
The bottom line
The IRS numbers are clear: top-5% earners pay, on average, 18.7% to 26.3% of their income in federal income tax. If your withholding and estimated payments don't add up to roughly that share of your income, expect a balance due when you file.
The way to avoid an April surprise is to keep the Whitt Accounting team informed throughout the year. When we know about changes in your income and deductions as they happen, we can update your withholding and quarterly payment targets so what you pay in keeps pace with what you'll owe. If anything has changed for you this year, reach out before January 15.
Source: IRS, SOI Tax Stats, individual statistical tables by tax rate and income percentile, as charted by the Tax Foundation (tax year 2023). This post is general information, not tax advice for your specific situation.
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