As the tax filing deadline passed in mid-April, the IRS was (as usual) working furiously to churn out tax refunds to tens of millions of Americans. When all is said and done, about 110 million taxpayers will receive checks or direct deposits totaling over $300 billion. For the three out of four workers who demand a refund, the average payment will be close to $3,000.
CALCULATOR: Set Your Withholding Right
Since this pattern is similar year after year, we can accurately predict that the average refund-receiving taxpayer, by April, has already banked about a $1,000 refund for next year by permitting employers to withhold too much tax each payday. Most workers will continue down this path throughout 2015, overpaying now so they can get their money back next spring.
But there is a better way: Fix your withholding so you get more of your money when you earn it. If you love the idea of “forced savings,” you should know that you don’t have to rely on the IRS to enforce the discipline.
Try this one-two punch:
- First, file a new W-4 with your employer claiming extra withholding allowances (we’ll explain the details below). That will cut the amount of taxes taken out of your checks each payday.
- Second, ask your payroll office to direct deposit the amount of your do-it-yourself pay raise to a savings account. (If your employer can’t split your direct deposit among different accounts, ask your bank to set up regular transfers between your check and savings accounts.)
If you regularly get an average-sized refund, this will steer about $250 a month into your account for the rest of the year. And, you’ll still get a $1,000 refund when you file your tax return in 2016 thanks to overwithholding that’s already occurred in 2015.
There are a couple of advantages to getting the IRS out of the process. First, you might earn some interest (albeit not much) on your savings. More importantly, it will be up to you when to use the money. If the IRS has your money, you have to wait until tax time next year to ask for your refund.
How to do it
The amount of income tax withheld for the IRS is controlled by the number of allowances you claim on the W-4 form on file with your employer (not the IRS). The more allowances you claim, the less tax is withheld. To change the amount taken from your checks, simply ask your company’s payroll office for a W-4 or download one here. Once you give a W-4 claiming extra allowances to your employer, withholding will drop and your take-home pay will soar. Consider it a way to start getting next year’s refund next payday.
Ah, but how do you know how many allowances to claim? Worksheets that come with the W-4 will help, and you can get detailed instructions in IRS Publication 505, "Tax Withholding and Estimated Tax". Or you can slog your way through the IRS's online withholding calculator.
But there’s an easier way. If your 2015 financial situation is likely to be similar to 2014's, take advantage of Kiplinger's Easy-to-Use Tax Withholding Calculator. We’ve updated the calculator for 2015. Answer three simple questions (you'll find the answers on your 2014 tax forms), and we'll estimate how many additional allowances you deserve. We'll even show you how much your take-home pay will rise starting next payday.
Your goal is to match withholding as closely as possible with what you’ll actually owe for 2015. The IRS can’t penalize you for underwithholding if you fall short by $1,000 or less. (Owing a small amount with next year’s return guarantees that you can’t be inconvenienced by an ID thief who files for a refund in your name—a problem that plagued thousands of taxpayers this year. If the IRS pays a fraudulent refund, it’s not your problem.)
Our quick-and-easy method is a helpful guide, not gospel. As noted, it's based on the assumption that your financial life hasn't changed dramatically. If you have a new baby, get a new job or have an adult child who qualified as a dependent in 2014 but won't in 2015, for example, the calculator won't reflect how such events will affect your tax bill.
But for most Americans, our calculator will paint a reliable picture. That, in turn, should accomplish two important goals:
1) Get you motivated to grab a W-4 to pinpoint how many extra allowances you should claim; and
2) Get you more of your money as you earn it.