The Case For Over Withholding on Your Taxes

I Know A Lot of You Will Disagree

I over withhold on my taxes every year and I’ll defend why throughout this post. I have been at points in life I have needed the extra money on a monthly basis and times I haven’t been as strapped and this advice has helped me generate wealth over time in both extremes and believe it will for you as well.

Some Quick Background

Every time you work with a new employer you fill out a W-4 form for both Federal and State taxes… most employees fill this out and never think about it again. This form dictates for your payroll team the estimated tax that should be withheld from your paycheck for Federal and State Taxes. The employer pays taxes on your behalf from your withholdings. During tax season every year you complete your tax forms which calculates all your actual taxes owed. The final tax bill is compared to your estimated payments. If you overwithheld (hold too much back in your paycheck) – you get a refund.

If the opposite – you have a tax bill and you could be subject to penalties. Generally, most taxpayers will avoid this penalty if they either owe less than $1,000 in tax after subtracting their withholding and refundable credits, or if they paid withholding and estimated tax of at least 90% of the tax for the current year or 100% of the tax shown on the return for the prior year, whichever is smaller. There are special rules for farmers and fishermen, certain household employers and certain higher income taxpayers. For more information, refer to Publication 505, Tax Withholding and Estimated Tax. (Previous paragraph includes an Excerpt from the IRS website).

W-4 calculators can be found here: IRS Withholding Calculator

Average American has a refund of $$2,700+ but this statistic varies by year and who is spinning the article. Last IRS statistics for 2018 are Here – IRS website

Turbo Tax: The Number 1 Tax Software

The Case For Not Overwithholding First

Let’s start with the counter argument first – a dollar today is worth more than a dollar tomorrow as all finance majors including myself know. Even if you don’t need the money – an extra $200 a month can be invested and give you a superior return to giving Trump a 0% loan for a year. You read that right you are giving Trump a 0% loan if you over withhold. Assuming you could get a 5% return or pay down debt with interest of 5% on your money you could generate $60 in a year (assumes you hold $2,400 at 5% but get in $200 increments each month). It’s math, it’s simple, take the money – dead argument.

Let’s Talk About Your Finance Brain

Ok the finance argument above is clear and you really can’t argue with the numbers.

What I can definatively say from over 15 working years is the above doesn’t pass the “reality test” of how my brain and life works for the following reasons:

• What am I going to do with $200 extra a month? I am going to naturally put that income into my monthly budget – which means I am going to spend it!
• If I get a lump sum of $2,400 – that’s a big chunk of money and I’ll do something smart with it (ok I might spend some of it but I least feel guilty and don’t spend 100% of it).
• If I owed more in taxes and had a tax bill I would not see that coming and most Americans would have trouble estimating it as well….. for most Americans an unseen bill means more debt. I have tried to get our w-4 right a few years and failed miserably (and I am a finance guy!). EVERY tax year has been unique for us and your taxable income is likely not as predictable as you might think – especially if you have any life changes – new baby, new house, change job, lose job, bonuses, higher deductions, change in your 401k, 401g, HSA or other deduction, etc.
• In general I believe in living below our means (it is very hard to do as a lot of you know)…. I just would rather not get used to more income, owe money, and have to lower my monthly income.

<li>60 or $5 a month is supposed to compensate me for all of the above? I don't think so. Put me in a net receivable position from the IRS and I'll do something smart with the money when it comes in.</li>
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How to Overwithhold

Talk to your HR department and find out if they have an online w-4 or a manual update. Once you find out how to update the form, its time to fill it out.

On your w-4 form pick 0 Deductions and if you are married pick “married but withholding at a single rate”

Don’t forget to do both your federal and state taxes! Two different w-4s!

Did this a year prior and still owe taxes? On the w-4 form you can have an extra set dollar amount taken out of your paycheck.

Not sure or confused by the form? Your HR team can usually help you out but when in doubt – go find a tax professional. Turbo Tax: The Number 1 Tax Software