Tweak Your Income Tax Withholding

Avoid Paying More or Less Tax Than You Owe

Closeup of a W-4 Employee Withholding form
••• Stephen Ehlers / Getty Images

When tax season gets underway, you may be wondering whether you'll owe money this year or snag a large refund. While the deductions or credits you claim can determine your tax liability, it's also influenced by how much taxes you elect to have withheld through your employer. Having too much or too little tax withheld have different consequences, so its important to ensure get tax withholding right.

Key Takeaways

  • Good idea to review your tax withholding at the beginning and end of each tax year
  • Withholding too much tax may result in large refund, but that money could earn better returns elsewhere
  • Withholding too little tax can lead to a big tax bill or even an underpayment penalty
  • Adjust tax withholding by filing a new Form W-4 with your employer
  • IRS provides a free tool to help calculate appropriate tax withholding

Why Tweak Your Income Tax Withholding?

Claiming too many withholding exemptions on the Form W-4 you file with your employer can result in underpaying your taxes for the year, which can mean owing more money when you file. The Tax Cuts and Jobs Act (TCJA) further complicated this issue by tweaking withholding tables. According to the Tax Foundation, aggregate tax refunds fell for most income levels in 2019 compared to 2017 (the last tax year before TCJA took effect).

On the other hand, if you claim too few tax withholding exemptions and you'll end up lending Uncle Sam your money interest-free. That's not as bad as ​owing, but why give up the interest on your money and the use of that money during the year?

Why Some People Prefer Getting a Tax Refund

For some people, tax withholding is a type of forced savings account. The money is withheld until they file their taxes, then they receive it all back in a lump sum in the form of their tax refund, rather than seeing it in their regular paycheck.

Getting the money back as a refund may be appealing if they have large expenses that are typically due around tax season, or if they're worried they may spend the extra money frivolously if they receive it during the year. However, there are better ways to make your money work for you than simply waiting for a refund in April.

An Alternative That Pays

For instance, it may benefit you more to adjust your withholding and have the extra money taken out of your paycheck or bank account automatically each pay period and transferred to a savings account.

If you're keeping the money in a high-interest savings account, those regular deposits can grow more quickly over time, compared to a traditional savings account.

If you don't believe in the power of small savings deposits, try tracking every penny you spend for a month. You'll likely be surprised (if not appalled) at how much seemingly inconsequential amounts can collectively add up to.

Those automatic savings deposits could help you to build an emergency fund, set aside money toward the purchase of a new car, plan for a dream vacation or wedding or put together a down payment on a home. When savings has an assigned goal and assigned place (such as your savings account), it's much easier to stay on track.

Choosing Your Withholding

If you haven't updated your tax withholding since tax reform took effect, it may be worthwhile to revisit that. If you have updated your withholding already, the beginning and end of the year are ideal times to review your strategy to ensure that you've claimed an appropriate number of allowances.

You can check your withholding periodically throughout the year to make sure you're not paying too much—or too little—in taxes. After all, you don't want to be surprised with a large tax bill in April.

Use a Tax Withholding Calculator

Ideally, you should claim the number of ​allowances that will result in withholding as close to what you owe as possible. Your target number depends on your filing status, your income, and whether you have any dependents that you claim on your taxes. If you're confused by tax withholding worksheets, a relatively easy way to calculate your appropriate withholding is to plug the numbers into a tax withholding calculator.

The IRS has a tax withholding estimator tool you can use to help ensure your withholdings are appropriate.

It's particularly important to revisit your withholding if you've undergone any significant life changes in the past year, if you owed taxes, or if you got a large refund. For example, you'd need to complete a new W-4 and submit it to your employer if any of the following situations apply to you:

  • You got a big refund last year
  • You had a major lifestyle change such as getting married, divorced, having a child among others.
  • You had a major financial change like change in employment, loss of employment or you begin working a second job.
  • You can no longer claim a dependent that you claimed last year

The Marriage Tax Penalty

Remember that if you're married, and you and your spouse both work, you may need to account for the "marriage tax penalty" when determining your withholding. This penalty results in married couples who file a joint return owing more taxes than two unmarried people with the same income would pay. Whether you're subject to the marriage tax penalty depends largely on your income. Depending on your situation, you may actually benefit from filing jointly—this is known as a "marriage tax bonus."

The TCJA preserved the marriage tax penalty, but only for the highest earners. After the TCJA took effect, this penalty only impacts married couples filing jointly with an income of $622,000 or more.

Filing separate tax returns could allow you to avoid the marriage tax penalty, but it may make you ineligible to claim certain credits or deductions, that could otherwise reduce your tax bill.

If You've Underpaid Your Taxes

If last year's withholding election has resulted in an underpayment of taxes for the year, or if you're self-employed and didn't pay enough in estimated quarterly taxes, don't panic. You have until the April filing deadline to pay the balance owed before interest and penalties begin to accrue. Remember, the Internal Revenue Service offers an installment agreement for taxpayers who need a payment plan to satisfy their outstanding tax bill.

Alternatively, you could use a credit card or personal loan to pay your tax bill if you'd rather not owe any money directly to the government. Remember, if you're going to use a credit card, look for one that offers the lowest annual percentage rate possible. This is especially important if you won't be able to pay the balance in full right away. Also, be aware that credit card payment processors will charge a fee of a little under 2% for passing along your tax payment to the IRS.

Frequently Asked Questions (FAQs)

How to calculate federal income tax withholding?

Typically, your employer will withhold taxes from your paycheck. The easiest way to calculate the correct amount of tax that needs to be withheld is by using the Tax Withholding Estimator tool on the IRS website.

How to adjust federal income tax withholding?

You would need to file a new Form W-4 with your employer to inform them of any changes to taxes they need to withhold from your paycheck. This, typically, happens when you undergo major lifestyle changes like marriage, divorce or new child or major financial changes. You can figure the correct amount of tax withholding using the IRS' Tax Withholding Estimator tool to.


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