Aside from accountants, few people relish the challenge of tax filing season.
But this past spring many individuals and small business owners had more cause to complain than usual after they ended up with a smaller federal tax refund, or worse — having to pay more in taxes to Uncle Sam.
The reason behind much of this angst was the sweeping 2017 tax overhaul that Congress passed in late December 2017. Among its many changes, the law altered how much income tax employers withhold from workers’ paychecks.
As a result, some of the people who got bigger paychecks in 2018 because not enough tax was being withheld ended up having to fork over more money after calculating their 2018 tax returns.
This is one reason that the number of refunds issued by the IRS this year declined. Some 101.6 million refunds had gone out as of May 10, the most recent data available from the IRS. That amounts to a 1% drop from a year earlier. The average refund also declined 1.7% to $2,729.
The Balancing Act
So, what’s the best way to keep this from happening to you when you file your 2019 tax return next spring? The key is to strike the right balance between how much of your paycheck you’re keeping and how much is being set aside to cover what you have to pay in income taxes for the year.
Small business owners and self-employed individuals, who typically will have to make quarterly tax payments to the IRS, should check to make sure they are calculating their payments properly. It’s possible that you may have to increase or reduce how much in tax you pay each quarter to adjust to the changes in the tax law.
Conveniently, the IRS rolled out an online calculator this month that is designed to make it easier for users to figure out how much of their pay should be going toward their tax bill under the new tax rules.
Small business owners and others who receive substantial income that’s not subject to withholding tax, such as dividends and capital gains, but who also draw a salary as an employee of their company, can use the IRS’ new tool to calibrate their individual quarterly payments.
They may find they can avoid or reduce their quarterly withholding tax payments by increasing how much tax is set aside from their paycheck, for example.
Small business owners can also use the IRS’ Form 1040-ES as a worksheet to pencil out their estimated tax for 2019.
While every household’s situation is different, most people who have only one job likely can make adjustments in how much of their pay is set aside for taxes by tweaking their IRS form W-4, which employees submit to their employer.
The amount of federal income tax that’s taken out of your paycheck depends on how much you earn and how many exemptions you list on your W-4.
The IRS has taken steps to update the form for the 2019 tax year so that it takes into account the changes in the tax law, which eliminated personal or dependent exemptions. Prior to the tax law changes, employees would determine how many personal exemptions to take on their W-4 and that would help their employer determine how much income tax to withhold.
The new form allows workers to reduce the tax withheld from their paycheck if they have itemized deductions and other income adjustments, such as contributions to retirement accounts.
But the new W-4 is not nearly as simple to fill out as its predecessor, so it pays to use the IRS’ tax withholding calculator as a guide. It also generates responses that can be used to fill in the form.
A Helpful Tool
The Tax Withholding Estimator can be used by workers, even those who are self-employed, retirees and others. It can help users determine whether they are having the right amount of tax withheld from their paychecks. For independent contractors, it calculates whether they are on track with their required quarterly estimated tax payments.
Navigating the estimator requires answering a series of questions about your household income and taxes. The responses are used to come up with an estimate of how much income tax you’ll owe and how much of that you’ve already paid in, whether through direct payments or from tax withheld from your paychecks.
The estimator walks you through steps to calculate your income and how much you’ve had withheld in income tax. It also allows you to factor in income from other sources, like a second job.
The online worksheet lets you apply the standard deduction, which for a single filer is $12,200, or itemize your deductions by factoring qualified expenses, such as mortgage interest, charitable donations and medical expenses. The calculator also lets you work in tax credits, such as for purchasing an electric car.
Once completed, the estimator shows whether your current withholding has you on track to owe, get a refund at tax time or have a zero balance.
You then have the option of choosing how to adjust your W-4 depending on whether you want to end up with nothing owed, but also no refund, or to have the IRS return the extra money you paid over the course of the year. Clicking either option generates instructions on how to fill in the W-4. It’s pretty simple.
Among the features of the withholding estimator are tips and links to help you determine if you qualify for any tax credits or deductions.
It also includes a way for workers who are self-employed but also have income from wages or other sources to determine their withholding tax.
You’ll need to reference information in your most recent paycheck stub, and last year’s federal income tax return. If you’re married or filing jointly, you’ll also need the same documents from your spouse or partner.
The IRS recommends that workers check their tax withholding and complete a new W-4 every year and when their financial situation changes due to marriage, divorce, a new job, the birth or adoption of a child or retirement, among other big life changes.
To make changes to your W-4, download a copy of the form on the IRS website and fill it out using the suggestions from the estimator, then submit it to your employer.
If you feel you’re on course for a hefty tax bill next April, remember you can also opt to make a payment or increase estimated quarterly tax payments to the IRS.
If you do end up changing your W-4 now for the 2019 tax year, you’ll want to recheck your withholding again in January. That’s because any changes you make at midyear in your withholding may not be ideal for all of 2020.
The IRS is urging workers to use the estimator to review their withholding for 2019. You can find it on the IRS website at www.IRS.gov/withholding.
Doing this sooner, rather than later, is better as it will give you more opportunity to have more tax withheld every paycheck, minimizing the likelihood that you’ll be writing a big check to Uncle Sam next year.
FINSYNC’s integrated payroll system, which combines payments, payroll, projects, accounting, cash flow projections, cash flow management, expenses, reimbursement and time tracking, can also help small businesses come tax time.
The intuitive online system can process payments and accurately comply with federal and state employee tax withholding requirements for full-time employees and independent contractors who require the issuance of a 1099 tax form.