The Perfect Paycheck Deduction To Break Even on Taxes

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In America, you’re required to pay taxes as you earn income throughout the year. The self-employed have to make estimated quarterly payments directly to the IRS. W-2 wage earners, on the other hand, pony up automatically every pay period when their employers withhold a portion of their check to fork over to the IRS on their behalf.

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In most cases, they fork over too much, which is why tens of millions of people look forward to refunds every spring. But smart taxpayers would rather break even than give the IRS a free loan. If you’d prefer to meet your tax obligations while also keeping every penny that’s yours when you need it throughout the year, you’ll have to tweak the amount that your employer deducts.

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Here’s how to find the sweet spot right in the middle. 

A Lot Depends on Your Income

So, you want to give the IRS its due without giving the government a handout — but what’s the right amount to withhold from your check to break even?

“As with most questions in taxes, the answer is, it depends,” said Eric Bronnenkant, CPA/CFP and head of tax at digital investment advisor Betterment. “There are taxpayers who exist all over the spectrum. On one end, people who make below the standard deduction — $12,500 — typically pay no income tax and no withholding may be required. On the other end of the spectrum, someone earning $100 million salary per year likely needs to withhold at the top tax bracket of 37% on virtually all of their income. For most people who are in between, it’s a little bit harder to figure out but there are tools and guidelines to help.”

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It’s Better To Overpay and Get a Refund Than To Underpay and Get a Penalty

You are, of course, trying to break even, but if you have to err, err on the side of not shortchanging the IRS.

“First, a key goal for withholding should be to avoid being subject to an underpayment penalty by withholding the lesser of at least 90% of what you owe in tax for the current year or 100% of what you owe on the prior year’s tax,” said Bronnenkant, who’s also a professor of taxation at Seton Hall University and was an author of the EY Tax Guide for seven years.

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Bronnenkant noted that 100% is replaced by 110% if the prior-year adjusted gross income is greater than $150,000.

Use the IRS’ Withholding Tool To Find Your Magic Number

If you want to adjust the amount that your employer withholds from your check, you’ll have to submit a new W-4 to your boss, and believe it or not, the IRS itself is your best bet for getting it right.

“The IRS has a handy tool to determine what to put on a W-4 and be on track to break even, and this is going to be the easiest and most accurate way to go about this,” Bronnenkant said in reference to the IRS’ Tax Withholding Estimator.

The tool lets you input all the variables that will lead you to your perfect paycheck deduction amount.

“Greater itemized deductions and tax credits will reduce the withholding amount,” Bronnenkant said. “A higher income from you and your spouse typically increases the expected withholding amount.”

The ultimate result is a pre-filled W-4 ready to be printed out.

“Is the system perfect for all scenarios? No,” Bronnenkant said. “It is not designed for more complex tax situations — long-term capital gains tax, qualified dividends, pensioners without active other employment, etc. — but it is a great tool for the average taxpayer.”

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If Your Life Changes, Your W-4 Should Change, Too

The IRS recommends using its withholding tool and filling out a new W-4 every year. If you’re not cut out for that level of diligence, make sure that you at least recalculate your withholdings in the wake of dramatic life events.

“If you want to ensure your employer withholds the right amount from your paycheck, you should fill out a new W-4 that accurately reflects your tax situation every year or every time your situation changes,” said Kari Brummond, an accountant with TaxCure.com. “So, fill out a new form if you get married or divorced, have a baby, have a child age out of dependent status, get a new job, start a side hustle, or make other changes to your tax situation. You can request and submit a W-4 to your employer at any time during the year. For the most accurate results, you should fill it out as close to the beginning of the year as possible — then the changes will affect all of your paychecks for the year. Many people, however, fill out this form in April when they file their last year’s tax return and realize that they have been withholding too much or too little.”

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About the Author

Andrew Lisa has been writing professionally since 2001. An award-winning writer, Andrew was formerly one of the youngest nationally distributed columnists for the largest newspaper syndicate in the country, the Gannett News Service. He worked as the business section editor for amNewYork, the most widely distributed newspaper in Manhattan, and worked as a copy editor for TheStreet.com, a financial publication in the heart of Wall Street's investment community in New York City.

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