No Refund + No Payment = You’re Doing Something Right:
Managing Your Tax Liability
The Trump administration enacted some major tax laws last year that taxpayers are starting to feel in diminished income tax refunds or higher payments in 2019. Essentially, the Tax Cuts and Jobs Act cut rates for taxpayers of every tax bracket, but also eliminated a great deal of deductions. This meant that most taxpayers had less tax withheld in 2018, slightly inflating their paychecks and subsequently lowering their highly anticipated refunds.
On the flipside, some individuals are being hit with a significantly higher tax bill than in previous years even with little or no change to their financial situation. Because federal withholding tables couldn’t fully predict the total effects of the new laws, some people did not have enough money withheld from their paycheck or withdrawn from their retirement income to cover their unanticipated tax bill.
The IRS is now encouraging taxpayers to check their current withholding and adjust as needed to adapt to the ramifications of these changes.
While these alterations have thrown many taxpayers into a tailspin in one direction or the other, the absolute best-case scenario is to adjust your withholding in such a way that you receive neither a refund nor a bill.
Getting a refund means you had too much withheld from your paycheck throughout the year and essentially gave the government an interest-free loan on your money when you could have been investing it for your own benefit.
Getting a bill indicates you didn’t withhold enough from your paycheck and may have to fork over a significant amount of money when it comes time to file.
The key is to dial in your withholding to get as close to your anticipated tax liability as possible—that way you get the most out of your paychecks without having to pay a lump sum later on.
When in Doubt, Adjust Your Withholding
At the end of the day, you are the only one in control of how much is withheld from your paycheck. The W-4 form provided to you by your provider is where you designate how much you wish your employer to withhold for the IRS on your behalf. If you are self-employed, own your own business, or are an independent contractor, you’ll need to withhold money on your own to cover your quarterly or annual income taxes (whether you pay quarterly or once a year is dependent upon your business structure).
But since there is no limit to how many times you can update your W-4, you should check (and potentially adjust) your withholding whenever you experience a life event that directly affects your income taxes or qualifying deductions, such as:
- Starting a new job
- Having a baby
- Getting married or divorced
- Receiving a windfall or inheritance
- Losing a spouse
- Receiving a hefty tax bill or refund
The way to adjust your withholding amount is by increasing or decreasing the number of personal withholding allowances you claim on your W-4. The more allowances you claim, the less that is withheld; the fewer you claim, the more that is withheld. Therefore, if you have a tax bill, you’ll want to reduce your allowances. If you receive a refund, you’ll want to add some.
The IRS recommends using their Personal Allowances Worksheet to estimate how much you’ll need to withhold throughout the year to avoid over or under paying.
There is no “right” number of allowances to claim since everyone’s situation is unique. Your filing status, your marital status, how many dependents you have, if you are someone else’s dependent, and your taxable income are all factors that can effect your tax liability.
Adjusting Allowances Based on Taxable Income
Any factor that affects your taxable income will affect the number of allowances you should claim. For example, itemized deductions, tax-deferred retirement contributions, and interest on student loans are all factors that reduce taxable income, and subsequently an individual’s overall tax burden. As these amounts fluctuate from year to year, take the time to adjust your withholding and/or personal allowances to keep the numbers balanced.
If you need assistance assessing your tax liability or would like guidance on how to choose personal allowances, schedule a complimentary consultation call with one of Century Wealth Management’s Certified Financial Planner™ or CPA professionals today. We would be honored to assist you.