Was your tax refund smaller than you expected in the spring? If so, making a simple change today can help you avoid the same fate next year.
Media reports early in the tax season suggested that a lot of taxpayers were not happy with their small refunds. Many of these folks blamed the Tax Cuts and Job Act, the federal tax overhaul that became law in 2017.
But it turns out that some taxpayers got smaller refunds simply because they failed to adjust the withholding in their paychecks so that it matched new realities in the wake of that tax legislation.
The IRS wants to make sure people are not surprised again. So, it is ramping up a campaign to get taxpayers to perform what it characterizes as a “paycheck checkup.” To do so, use the withholding calculator at the federal agency’s website.
Before you begin, grab your most recent pay stubs and most recent federal tax return. Following the steps outlined in the calculator should give you a good sense of whether you need to make an adjustment to your paycheck withholding. As the IRS notes:
“With careful planning, any taxpayer can determine the correct amount of tax to ask their employer to withhold to avoid tax filing surprises at the end of the year.”
The percentage of taxpayers who had smaller refunds — or who ended up owing the IRS money — declined as the tax season wore on. In early May, IRS statistics showed that the average refund was down roughly $50 from the 2018 tax season.
Still, that turnaround was not much solace to folks who were counting on a big refund but didn’t get it — or who unexpectedly had to write a check to the IRS at tax time.
Should you adjust your withholding?
Just because you can adjust your withholding doesn’t necessarily mean you should.
Over time, millions of taxpayers have learned to count on getting a big refund. But in reality, that is often poor money management.
As we have pointed out several times before in stories like “8 Foolish and Costly Financial Fouls — and How to Avoid Them,” a large refund at tax time means you have given the government an interest-free loan over the course of the year.
Financially, you’d be better off not having that money withheld from your check. Instead, get the money upfront and park it in a savings account paying a higher rate of interest.
That means your money can grow throughout the course of the year, which should result in more cash in your pocket than if you waited for a simple refund from the government later on.
If this strategy appeals to you, it might be time to look for a higher-paying savings account. One way to do so is to stop by Money Talks News’ Solutions Center and compare savings account interest rates.
You could also do other things with that money when it’s no longer being withheld from your paycheck, such as investing it or using it to pay down debts. The point is that for many people, having the money upfront makes the best financial sense.
Of course, all of this assumes you are not a spendthrift who struggles to control impulse spending. If that sounds like you — and sadly, millions of us are in this boat — it might make sense to have more withheld from your paycheck after all.
For those of us who lack the discipline to save, having more withheld is the equivalent of teaming up with the government so we can curb our worst instincts and save more. After all, if you don’t see the money in your paycheck, you (hopefully) will be less tempted to spend.
So, “know thyself.” Then, make the decision that is best for you.
Was your refund smaller — or bigger — than you expected? Sound off in comments below or on our Facebook page.