Now that tax season is over and your returns have been filed or extended, it is a good idea to take a look at how much you are withholding and adjust it as needed to accommodate the Tax Cuts and Jobs Act (TCJA).
The best course is to adjust your withholding so next year you come as close as possible to breaking even – not receiving a refund or paying any extra. By doing this you have the added benefit of earning interest on your money rather than having the government hold it for you until we file your return next spring. To avoid penalties, however, you must withhold 100 percent of the taxes you paid in 2018 or 90 percent of what will be due for 2019, which obviously is a bit of a guess at this point. To be safe, this is why most people over-withhold and enjoy a refund each year.
For the 2018 filing season, a lot of people were surprised to learn that they were under-withholding and any extra money they were seeing in their paycheck was going to go right to the IRS. It was so common, in fact, that the IRS changed the threshold for underpayment penalties from 90% to 85% for the 2018 filing season. But now that is all water under the bridge and we are already nearly four full months into 2019.
To avoid getting a surprise tax bill next year, anyone who receives a paycheck should take a few moments to review their withholding and adjust it as needed. This is typically a simple process of telling your human resources department that you want to review and update your W-4.
- If you owed the IRS in 2018:
- Decrease the number of personal allowances, or
- Ask that a specific amount be taken from each paycheck. You can get to this number by taking what you owed in 2018 and dividing it by the number of pay periods you have left this year.
- For example, say you owed $4000 in 2018 and have 16 remaining pay periods. $4000/16 = $250 which is the additional amount you should ask the IRS to withhold from future paychecks for the rest of the year.
- Don’t forget to factor in state and local taxes as well.
- If you got a big refund in 2018:
- Increase the number of personal allowances. This will give you more take-home pay in each paycheck. Rather than spending it though, consider funding a savings account with the extra money or increasing your 401k contribution.
If you are expecting major changes in your life this year, like getting married, having a child or buying a home, you will need to factor how those events will impact our overall tax picture into your withholding decision too. The IRS has a withholding calculator that some find helpful, or we are more than happy to help you as well. Just reach out with questions!