Am I Having Enough Withheld from my Paycheck?

If you fail to estimate your federal income tax withholding properly, it may cost you in a variety of ways. If you receive an income tax refund, it essentially means that you provided the IRS with an interest-free loan during the year. By comparison, if you owe taxes when you file your return, you may have to scramble for cash at tax time — and possibly owe interest and penalties to the IRS as well.

When determining the correct withholding amount for your salary or wages, your objective should be to have just enough taxes withheld to prevent you from incurring penalties when your tax return is due (you may owe some money at the time you file your return, but it shouldn’t be much). You can accomplish this by reading and understanding IRS Publication 505, properly completing Form W-4 (and accompanying worksheets), and providing an updated Form W-4 to your employer when your circumstances change significantly.

Form W-4

Two factors determine the amount of income tax that your employer withholds from your regular pay: the amount you earn and the information you provide on Form W-4. This form asks you for three pieces of information:

  • The number of withholding allowances you want to claim: You can claim up to the maximum number you’re entitled to, claim less than you’re entitled to, or claim zero.
  • Whether you want taxes to be withheld at the single, married, or married with tax withheld at single rate: The married status, which is associated with a lower withholding rate, should generally be selected only by those taxpayers who are married and file a joint return. Those who are married and file separately should select married with tax withheld at single rate.
  • The additional amount (if any) you want withheld from your paycheck: This is optional; you can specify any additional amount of money you want withheld.

When both spouses work and have taxes withheld at the married rate, they sometimes end up with insufficient taxes withheld. If this happens to you, remember that you can always choose to withhold at the single rate. In addition, you can determine the proper withholding amount by completing Form W-4’s two-earner/two-job worksheet.

Claim the Correct Number of Allowances

To understand Form W-4, you must understand allowances. Think of allowances as cash in your pocket at the time that you receive your paycheck. The more allowances you claim, the less taxes are taken from your paycheck (and the more cash ends up in your pocket on payday). For example, you can maximize the amount withheld from your paycheck to ensure that you have enough tax withheld to cover your tax liability by claiming zero allowances. This will reduce the amount of cash you take home in your paycheck. The following factors determine your number of allowances:

  • The number of jobs that you work
  • The deductions, adjustments to income, and credits that you expect to take during the year
  • Your filing status
  • Whether your spouse works

To claim the correct number of allowances, you should complete Form W-4’s worksheets. These include a personal allowances worksheet, a deductions and adjustments worksheet, and a two-earner/two-job worksheet. IRS Publication 505 (Tax Withholding and Estimated Tax) explains these worksheets.

See how your withholding affects your refund, take-home pay or tax due using this tool from the IRS.

Check your Withholding

To avoid surprises at tax time, it’s a good idea to periodically check your withholding. If you accurately complete all Form W-4 worksheets and don’t have significant non-wage income (e.g., interest and dividends), it’s likely that your employer will withhold an amount close to the tax you’ll owe on your return. But in the following cases, accurate completion of the Form W-4 worksheets alone won’t guarantee that you’ll have the correct amount of tax withheld:

  • When you’re married and both spouses work, or if either of you start or stop working;
  • When you or your spouse are working more than one job;
  • When you have significant non-wage income, such as interest, dividends, alimony, unemployment compensation, or self-employment income, or the amount of your nonwage income changes;
  • When you’ll owe other taxes on your return, such as self-employment tax or household employment tax;
  • When you have a lifestyle change (e.g., marriage, divorce, birth or adoption of a child, new home, retirement) that affects the tax deductions or credits you may claim; and/or
  • When there are tax law changes that affect the amount of tax you’ll owe.

In these cases, IRS Publication 505 can help you compare the total tax that you’ll withhold for the year with the tax that you expect to owe on your return. It can also help you determine any additional amount you may need to withhold from each paycheck to avoid owing taxes when you file your return. Alternatively, it may help you identify if you’re having too much tax withheld. If you find that you need to make changes to your withholding, you can do so at any time simply by submitting a new Form W-4 to your employer.

A tax professional can help you evaluate your situation and feel free to contact us for any tax professional referrals at financialplanning@bfsg.com.

Prepared by Broadridge Advisor Solutions. Edited by BFSG. Copyright 2022.

Disclosure: BFSG does not make any representations or warranties as to the accuracy, timeliness, suitability, completeness, or relevance of any information prepared by any unaffiliated third party, whether linked to BFSG’s website or blog or incorporated herein and takes no responsibility for any such content. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly. Please remember that different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment or investment strategy (including those undertaken or recommended by Company), will be profitable or equal any historical performance level(s). Please see important disclosure information here.

Understanding Washington State’s New Long-Term Care Program

Back in 2019, the state of Washington passed the “Long-Term Services and Support Trust Act” to provide long-term care benefits. The benefit would be $100 per day with a lifetime maximum of $36,500 and the benefits can be used for long-term care services including professional care at home or nursing facilities, dementia support, or adaptive medical equipment. The benefits will not start until January 1, 2025.

This act will be paid for through an additional tax the employer will deduct from your payroll for 0.58% of the employee’s wages and there is no cap. For example, an employee making $100,000 will pay $580 annually for this tax.  Independent contractors and self-employed are not required to participate. Currently, there is no option to be excluded from this new tax.

Employers were set to begin the new payroll tax on January 1st, 2022, but this has been delayed until March 2022. Governor Jay Inslee has temporarily halted the collection of the payroll tax to allow the Legislature to have more time to review and potentially make some changes. There may be potential changes and we will keep you updated as things progress.

Disclosure: BFSG does not make any representations or warranties as to the accuracy, timeliness, suitability, completeness, or relevance of any information prepared by any unaffiliated third party, whether linked to BFSG’s website or blog or incorporated herein and takes no responsibility for any such content. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly. Please see important disclosure information here.

Executive Order for Payroll Taxes

A few weeks ago, President Trump signed four executive orders to act as a bridge until more permanent measures for coronavirus aide are passed by Congress. The least understood of these gave employers the option to defer the employee-only portion of 6.2% for Social Security tax for employees that typically earn less than $104,000. This deferral is allowed from September 1st through December 31st of this year. It is important to note that employees do not get to make this decision and this decision is at the employer’s sole discretion.

Based on current IRS guidance this is simply a deferral of taxes owed, so additional withholding on compensation from January 1 through April 30th, 2021 would have to increase to recover the deferred taxes. If the employer does not collect the deferred taxes from an employee (i.e. terminated employee), the employer is still responsible for payment on the deferred taxes by May 1, 2021. For eligible employees, employees would have no Social Security tax withheld now until the end of the year but would have double the normal withholding for the first four months of 2021 to recover the delayed taxes. If the taxes were not withheld from an employee’s paycheck then the employer would be responsible to pay the shortfall for the remaining deferred taxes.

In our view implementing this deferred tax option for eligible employees does not seem to make sense. It may create a cash flow burden next year for employees and potentially an unfunded liability for employers. There has been some speculation that Congress may forgive these deferred liabilities, but given the current political uncertainty, we do not feel secure recommending this based on conjecture. If you have any questions or concerns, please do not hesitate to contact us.