Making Work Pay Confusion Could Cost You
What if too little taxes are being withheld from your paycheck?
Laura Adams, MBA
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Making Work Pay Confusion Could Cost You
This episode is about the confusion many people have expressed about the “Making Work Pay” tax credit. Here’s a question I received from Amy in Cincinnati:
Hi, Laura. My company’s payroll service recently, as they were supposed to, changed the withholding tables to accommodate the slow dribble of stimulus money into my paycheck. The change put about $15 into my take-home pay per week in accordance with the President’s stimulus bill. My husband also works and has seen the same thing happen to his paycheck. If I understand the situation correctly, we would be entitled to $800 total between us. We don’t make enough money to have the stimulus money phase out and we only have one job each. My question is that at a rate of $30 per week we would hit $800 in about 26 weeks. Since the money started to come our way the beginning of April should I expect the stimulus money in my paycheck to stop sometime in September? Put another way should I expect that my company’s payroll service would put the old tables back in service at that time?
Do the Tax Credit Math
Do the Tax Credit MathAs most of you know, millions of Americans have seen a small increase in their paychecks due to the “Making Work Pay” tax credit that went into effect earlier this year. If you’re not familiar with this tax benefit, be sure to listen to show 116 where I explain it in more detail. But what Amy said is correct—single taxpayers are eligible for a credit up to $400 and married couples filing jointly can get up to $800. However, if you make too much money your benefit will be phased-out, meaning you don’t get the full benefit. And you’re not eligible for the credit at all if you’re an individual making more than $95,000 or a couple earning more than $190,000.
The reason wise folks like Amy are scratching their heads is because they’ve done the math and it just doesn’t add up. Most employees started getting the extra stimulus money at the beginning of April. From April 1st through December 31st there are 39 weeks in the year. If you multiply the extra you’re receiving each week by the 39 weeks that you’ll receive it in 2009, it may be more than your allowable limit. At first, that may seem fantastic, until the disappointing reality sinks in that dear old Uncle Sam will want his money back.
Reversal of Fortune
So, the answers to Amy’s questions are “no”. The stimulus money will not stop sometime in September. The faucet for the ‘slow dribble’ (as Amy so aptly put it) won’t be turned off until the end of the year, because that’s how long the new withholding tables must be used by employers. You may be wondering, is this a cruel joke the government is playing on us, to dish out extra money now, only to ask for it back later? Unfortunately, in many cases this is exactly what’s going to happen and most people aren’t aware of it. But that’s why you listen to the Money Girl podcast, right? I’ll tell you how to prevent an unexpected tax liability that could be a real downer!
Here’s the deal: the new IRS tax withholding tables could cause millions of taxpayers to be overpaid by hundreds of dollars. Some people are more at-risk for this reversal of fortune than others.
Does this Affect You?
I’ll explain two scenarios that might cause you to have too little taxes withheld. Be aware that these aren’t the only instances where overpayment can occur. You’re probably at risk if:
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you’re married, just like Amy, and both of you work
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you’re single and have more than one job
So What’s the Problem?
A key reason people in these situations may end up having too little taxes withheld from their income is that each employer is like an island. They operate independently and must adhere to the new payroll withholding tables regardless of other employers. Each one will assume that they’re responsible for giving you the full tax credit amount, unless you inform them otherwise.
Now let’s talk about these two scenarios. If you’re married filing jointly, your employer will use a withholding calculation designed to give you $800. But your spouse’s employer will do the same thing. The employer won’t know that both spouses are working, and therefore as a couple you can easily be double-paid.
The IRS caught on to this major glitch, and made an update to the withholding tables to try to correct this situation for married people. But the result is that each spouse may still end up with about $600, for a combined total of $1200. That’s an overpayment of $400. Take Amy’s situation: she and her husband are receiving an extra $15 a week. Multiply that times the 39 weeks from April through December, and that totals $1170. So unless Amy changes her withholding, she and her husband will receive approximately $370 in excess of their allowable limit.
Are you still with me? Let’s talk about the second situation I mentioned: you’re single and have more than one job. Your payroll from each employer is treated as if it’s your only income. So each employer will give you an extra $400 by the end of the year. Because you have multiple jobs, you’ll get multiple tax credits!
Will You Refund Uncle Sam?
Because the credit is received slowly over time, overpaid taxpayers may find themselves in a predicament. They could have already spent the excess money on lattes and dinners out each week! After all, that was the purpose of doling out the tax credit incrementally—to make it easy for people to stimulate the economy.
However, one light at the end of the tunnel is that if you usually receive a tax refund, too little withholding may simply result in a smaller-than-expected refund next year. But if you don’t get a refund, or get a very small one, you’re more in danger of finding yourself with an unwelcome tax bill next April. (By the way, even though it might sound crazy, getting a large refund on your taxes isn’t nessecarily a good thing. Find out why in my episode on reducing your taxes.)
How to Correct Withholding
Don’t blame your employer for this mix-up, they’re simply following the new tax laws. If you want to make sure that you won’t have to come out of pocket for taxes next year, my advice is to check your federal withholding as soon as possible. If you don’t have a copy of your current W-4 that’s on file with your employer, ask for a copy. Then use the online IRS withholding calculator to check your situation. If you need to make adjustments, complete a new W-4opens PDF file and turn it in to your employer. [[AdMiddle]
You’ll find links to the withholding calculator, the W-4 form, and more in the show transcript at moneygirl.quickanddirtytips.com. Remember to check out my previous episode on the “Making Work Pay” tax credit. If you choose not to make necessary withholding adjustments now, be sure not to spend all your slow dribble … you may need it in April.
Administrative
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Chi-Ching, that’s all for now, courtesy of Money Girl, your guide to a richer life.
More Resources:
New income tax withholding tables
Form W-4opens PDF file , Employee’s Withholding Allowance Certificate
Publication 919opens PDF file , How Do I Adjust My Tax Withholding?
Image courtesy of Shutterstock
About the Author
Laura Adams received an MBA from the University of Florida. She’s an award-winning personal finance author, speaker, and consumer advocate who is a frequent, trusted source for the national media. Money-Smart Solopreneur: A Personal Finance System for Freelancers, Entrepreneurs, and Side-Hustlers is her newest title. Laura’s previous book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show.