It’s the first week after tax returns were due, so you’ve probably already filed your returns.
How did you do?
Did you get a huge refund? A small one? Did you owe a lot? A little?
What do these things mean?
Let’s dive into it shall we?
Large Refund:
If you received a big refund, it means that you paid in to the IRS money that you could have been spending throughout the year. This money was basically an interest-free loan to the government. This happens if you; had too much withholding, underestimated your tax credits and deductions or overpaid estimated taxes.
Too Much Withholding
A common reason for a large refund is excessive withholding. Employer withholding is the way most employees pay estimated taxes on their income. The way employers decide how much to withhold is based on your filing status and your number of withholding allowances. This information is captured on IRS form W-4. When you complete your W4, be sure to take into account the total number of incomes on your tax return; for example whether your spouse has income, and or if you have a business or other income
Underestimating Tax Credits and Deductions
In addition to the number of people that will be claimed on your tax return, the number of tax credits and other deductions you will claim is also a factor. Deductions such as medical expenses, charitable donations, interest and taxes paid can reduce your taxable income. Credits such as the Child Tax Credit, Education Credits or Earned Income Credit can reduce your taxes due. If you do not factor in these deductions and credits, you may have too much withholding.
Overpaying Estimated Taxes
Estimated taxes are usually paid by self-employed individuals or businesses. Overpayment of estimated taxes is a result of underestimating your expenses or overestimating your income. This can be prevented by keeping good records of business income and expenses. Use bookkeeping software to make this easier.
Large Tax Due Bill:
If you had the opposite situation and owed a lot, it means you did not have enough paid in over the year. This can happen for a number of reasons, either because you; did not have enough withholding, had additional income, were affected by tax law changes, or had life changes that changed your eligibility for deductions and credits.
Not Enough Withholding
Just as you can have too much withholding, it is possible to have not enough withholding. This can happen if you do not consider all your income when completing the W-4, including business income or income your spouse makes.
Additional Income
Making additional income can also increase your tax bill. This can be from working overtime, taking on a second job or business income, or even a better paying job.
Tax Law & Life Changes
While you cannot predict tax law changes, if you are a business owner you should be keeping an eye on any laws that may affect your business. If you are an employee, your employer will be able to adjust your withholding to keep up with any law changes.
Any number of life changes can change your tax bill. A good rule of thumb is to review your W-4 whenever there are any changes to your family or your finances.
Small Refund or Small Tax Due Bill:
If you had a small refund or you owed a small amount, your withholding and estimated payments are likely just where they need to be. If the bill is still larger than you’re able to pay at once, consider revising your withholding to correct it.
IRS Withholding Estimator
A good tool to keep tax season from being a surprise is to utilize the IRS Withholding Estimator. This tool helps you to:
- Estimate your federal income tax withholding
- See how your refund, take-home pay or tax due are affected by withholding amount
- Choose an estimated withholding amount that works for you
To use the tool, gather these:
- Paystubs for all jobs (spouse too)
- Other income info (side jobs, self-employment, investments, etc.)
- Most recent tax return
Go here:
Tax Withholding Estimator – About You | Internal Revenue Service (irs.gov)
Be sure to use accurate numbers, your results will only be as accurate as the information you enter.