Claiming Allowances on Taxes

Claiming Allowances on Taxes  

When you start a new job, or when your financial situation or dependent changes, you will need to complete the Form W-4, Employee’s Withholding Certificate.  This form is used by your employer to ensure your withholding the correct federal income tax from your paycheck.

In previous tax years, the form W-4 notated withholding allowances.  Going forward the IRS has redesigned the form and allowances are no longer used.  The reason: the value of a withholding allowance was tied to the amount of the personal exemption.  As there have been changes in law, currently (2020) you cannot claim personal or dependency exemptions.

As the W-4 has been redesigned, we will go through what’s new and how to complete the updated form.

What You Should Know About Tax Withholding

A business with employees is required to withhold certain taxes from their employee’s paycheck, known as payroll tax.  These taxes are Federal Income, Medicare and Social Security, also known as FICA.  The FICA taxes, Medicare and Social Security, are paid a total percentage of 7.65%, which is divided into 6.2% for Social Security and 1.45% for Medicare.

When your employer collects these amounts, they are sent to the IRS and listed under your social security number.  When you prepare and file your return, there is a section that states, Line 17, Federal income tax withheld from Forms W-2, which will either give you a refund or show you have a balance due.  The key to the form W-4 is knowing just the right amount to be withheld from your paycheck to ensure you break even.  If you withhold too much, you will receive a refund which means you could have been receiving more per paycheck. If you withhold too little, you will have a balance due which could be unexpected at tax time.

What is Form W-4?

Form W-4 is where you will enter your withholding amounts depending on a few key items, such as how many jobs you hold, does your spouse work, do you have dependents or do you receive income not from a job, but from interest, dividends or a retirement account.

As the IRS has updated and redesigned the form W-4, we’ll go through it here in hopes of answering all those questions you may have.

Form W-4 – Step by Step

Step 1

Enter your name, middle initial, last name, social security number, address, and your filing status.

Step 2

This section should be completed if you have a. more than one job, or b. your spouse is employed.  The form specifically states to complete only one of the following in this section.  Therefore, you can either

a. Use an estimator to figure the amount you should have withheld. Use the estimator found here: W-4 Application

b. Use the Multiple Job worksheet attached to the form W-4

c. If you currently have only two jobs with similar pay, you may check the box. On your other form W-4, do that same and check the box.  If one job earns much more than the other, we don’t recommend this option as then too much tax would be withheld.

Step 3

This section is regarding your dependents.  There is an amount for qualifying children under the age of 17 and if there are any other dependents.

Step 4 (Optional)

Here is where you would enter the other income we mentioned earlier, deductions if you do not use the standard deduction amount and/or if you wish to have extra tax withheld from your paycheck each pay period.

Step 5

Be sure to sign and date.  Remember you are signing under penalties of perjury so make sure the information you are providing is correct.  Additionally, be sure your name matches the name on your Social Security card.  If it doesn’t, you may not get credit for your earnings. The Social Security Administration can be reached: 800-772-1213 or www.ssa.gov

To give you an idea of what your withholding amounts may look to be, here are the marginal tax rates for tax year 2020 as obtained from the IRS:

The top tax rate remains 37% for individual single taxpayers with incomes greater than $518,400 ($622,050 for married couples filing jointly). The other rates are:

• • 35%, for incomes over $207,350 ($414,700 for married couples filing jointly);
  • 32% for incomes over $163,300 ($326,600 for married couples filing jointly);
  • 24% for incomes over $85,525 ($171,050 for married couples filing jointly);
  • 22% for incomes over $40,125 ($80,250 for married couples filing jointly);
  • 12% for incomes over $9,875 ($19,750 for married couples filing jointly).

The lowest rate is 10% for incomes of single individuals with incomes of $9,875 or less ($19,750 for married couples filing jointly).

Claiming an Exemption from Withholding

There are some instances in which you could be exempt from withholding.  To claim this exemption status, you must have had a refund of all the federal income tax withheld in the prior year because you did not have any tax liability. Meaning, all the tax that was withheld was returned to you in a refund. If you expect the same to happen in the current tax year, you may then write “Exempt” on your W-4 form.

It’s important to note you must complete this form W-4 annually as the exempt status does not automatically carry over from year to year.

Here are the filing requirements as set by the IRS as of tax year 2019:

Fine-Tuning Your Withholding

As discussed earlier, you will complete a form W-4 when you start a new job, but you may need to update the form W-4 even if you don’t change jobs.  The reason being your financial situation may have changed.  Did you receive an increase income? Did you get married? Did you have a baby?

There are many changes in our lives that we don’t even think would affect our tax bill, but they certainly do.  We’ll go through how to ensure your withholding just the right amount.

            1. Your filing status. Single, Married Filing Joint, Married Filing Separately (which is the same tax as single) and Head of Household.

            2. Number of dependents. Are they 16 and younger? Or 17 and older?

            3. How many jobs do you have? Do you plan to hold these jobs for the entire year? How often are you paid?

            4. Does your spouse work?

            5. If your dependent is under 13, are they in child care?

            6. Do either you or your spouse attending college?

            7. Do you have any other sources of income, such as self-employed, interest, qualified dividends, IRA/Pension distribution, Social Security benefits, Alimony, Unemployment?

            8. Will you take a Standard Deduction or Itemize your deductions?

For example, if you are self-employed, you may want additional tax withheld to ensure you won’t have a tax bill. 

If you are worried a current employer will see you have a second job, or you don’t want them to know you receive additional income from another source, another option is to make quarterly Estimated Tax Payments.  If you choose this route, it’s best to sign up for the EFTPS system through the IRS.

Summary

• A business with employees is required to withhold certain taxes from their employee’s paycheck, known as withholdings. These taxes are Federal Income, Medicare and Social Security, also known as FICA.
• When completing the W-4, you are asking the employer to withhold a certain amount from each paycheck, which will determine if you will receive a refund or owe tax at the time of filing.
• The form W-4 uses information such as filing status, number of job and dependents to determine the proper amount is being withheld.

As a final reminder, update your W-4 form with your employer when your life events change as that will affect your tax bill.