This article was last updated on February 2
A lot of people look forward to their tax refund at the end of the year. But I know that if I get a big refund, it usually means I haven’t kept up with my paycheck withholding. Why should I wait until next year to get my hands on money that is already mine? If you overpay your tax obligations through too much in withholdings, then you are sure to get a nice tax refund. But wouldn’t you rather get and use that money now instead of waiting until after you file your next tax return?
Start Getting Your Money Now
When you first start a job, you fill out a form called a W-4. This form tells your employer how much tax to withhold from your paycheck. You can submit a new W-4 form anytime to adjust your tax withholding. Your employer will withhold more or less tax depending on how many allowances you enter on the W-4.
What Are Allowances?
Basically, the more allowances you claim on your W-4, the less money will be taken out of your paycheck. You can take an allowance for yourself, for your spouse, and for each of your dependents. But you can take allowances for other things, too. Here are examples of the most common things people take allowances for:
- Your spouse
- Each of your dependents
- Some tax credits
- Some itemized deductions
- Additions to the standard deduction
- IRA Contributions
- Business expenses
- Job-related moving expenses
- Alimony payments
You can also take allowances for nothing at all, if you wish. You could take enough allowances that you will have no money withheld from your paycheck, or you can take no allowances and have the maximum amount withheld. What I try to do is adjust my withholding so that I have just enough money taken out to cover my actual income tax liability. After you used a withholding calculator to figure out how many allowances you should take out estimate your 2012 tax refund through a free tax return calculator. Keep in mind you can always come back and re-calculate and adjust your withholdings throughout the tax year.
When to Submit a New W-4
How long has it been since you adjusted your withholding? Like many people, you may have only filled out a W-4 when you were first hired. I make sure to check my allowances and give my employer a new W-4 at least once a year, but also whenever something major happens in my life that might change my tax situation. You may want to check you withholding and fill out a new W-4 if:
- You get a raise
- You get married (or divorced)
- You gain (or lose) a dependent
- You purchase a home
- You receive any major influx of cash
Let Your Money Work for You
Remember that if you don’t owe it in taxes, the money in your paycheck is yours to do with as you please. You could let the IRS hold onto it for a while, essentially making a loan to the government at 0% interest (when’s the last time they did that for you?) Some people actually choose to do this in order to force themselves to save money. But if you are going to do this, then you might as well open a savings account at a bank and deposit the extra money from your paycheck there instead of having it withheld. With a savings account or another investment, your money will earn you interest instead of just sitting there on the government’s balance sheet.
The Value of Money
There is another reason to collect your money now instead of waiting for a tax refund: inflation. Because inflation is an ever-present factor in our economy, a dollar is worth more now than it will be in a year. This is known as the future value of money, and it is less than the present value. So instead of just handing your money over to the IRS for safekeeping, let your money do a little work for you and put it in some sort of interest-bearing account. If you are afraid of spending the extra money you get each paycheck, you just need to have enough discipline to deposit it in your account as soon as you get paid. That way, you will have a little more to spend when it comes time to withdraw the funds!
So to recap : When’s the last time you filled out a new W-4 to adjust your withholding? What did you do with the extra money? Do you like to have too much money withheld in order to give yourself a tax refund? After reading this article, will you instead deposit the money in a savings account? Share your thoughts in the comments section below!