The Tax Withholding Paradox

The Tax Withholding Paradox

Robert Lindstrom, CFP®

It is true that most people will see their income tax rates lowered in 2018, but is it possible that despite having their rates lowered, some may actually owe more in income tax? The answer, unfortunately, is yes, given that there were many significant changes to the tax code for the first time since the 1980s, which include the way dependents are treated, credits, phase outs, state and local taxes, and types of income, just to name a few.

Payroll companies have automatically adjusted their withholding rates as a result of the tax reform, which may now mean that you are not withholding enough throughout the year. This can result in a higher tax liability as well as underpayment penalties. In contrast, you now may be withholding too much, and an adjustment could give you greater cash flow so that you are not providing the government with an interest-free loan.

We always recommend that people adjust their withholdings as their circumstances change, but doing so this year is even more important because there were many other significant changes to the tax code besides just the marginal tax rates. This especially applies if any of the following describe your situation:

  • You are a two-income family.
  • You work two or more jobs or only work for part of the year.
  • You have children who claim credits such as the Child Tax Credit.
  • You have older dependents, including children aged 17 or older.
  • You have itemized deductions in 2017.
  • You have high incomes and more complex tax returns.
  • You have large tax refunds or large tax bills for 2017.

The only thing worse than owing money to the IRS when you are ready to file is being surprised by it. Avoid being surprised by visiting the IRS website, which provides step-by-step instructions on how to use the IRS Withholding Calculator. Be sure to have a recent paystub so that you can use accurate numbers.

The Financial Consulate stands ready to assist our Personal Financial Management clients through this process. Please contact your primary advisor if you have any questions.