Adjusting Withholding via W4 Exemptions

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One of my friends recently asked the following question about adjusting the withholding on his paycheck in order to minimize overpaying his income tax:

We recently just bought a house. We’ve never itemized my taxes before because we didn’t have enough to come close to the standard deduction. Now, however, clearly we will. We’ll have approximately $30k in write-off’s between the property tax and mortgage interest. The difference between this and the standard deduction (~$10k) is ~$20k. Using the 25% tax bracket, this means we’ll get back $5k in taxes (compared to last year). How much should I adjust my w4 exemptions so that we can get this money in our pay checks instead of a big check from the fed’s at the end of the year?

The gist of the scenario is that the difference between this year and last year is that this year he will be able to include $30,000 in itemized deductions rather than take the $10,000 from the standard deduction. How should he adjust his Form W-4 exemptions so that he doesn’t unnecessarily overpay his taxes through withholding?

The simple, for me, answer is to turn to the IRS’s 2008 Withholding Calculator because that’s the official answer (but that would be too easy!). The “rule of thumb” is that each of the exemptions on your W-4 represents a dependent deduction and each dependent deduction is worth approximately $3,400. The purpose of the W-4 was so that you could indicate how many dependent children you had and so you can repurpose this to cover all the other deductions you have on a basis of ~$3,400 per exemption. Based on the rule of thumb, the answer appears to be 9 exemptions.

Now comes the question of whether the couple both puts 9 or if one person puts 9 and the other puts 1. Since you’re adjusting your total tax liability between two people, I believe the answer is that one person puts 9 and the other puts in 1 but I’m not 100% sure. If both were to claim 9 exemptions (total of 18!), you would double counting and thus underpaying by 9 exemption’s worth. I’m not a tax expert but a few readers are, so hopefully someone can chime in on whether this is correct.

Ultimately, to be 100% sure, I’d check the IRS 2008 Withholding Calculator and then speak to a professional tax accountant.

{ 17 comments, please add your thoughts now! }

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17 Responses to “Adjusting Withholding via W4 Exemptions”

  1. Brandon says:

    The W-4 form itself says:

    “Two earners or multiple jobs. If you have a
    working spouse or more than one job, figure
    the total number of allowances you are entitled
    to claim on all jobs using worksheets from only
    one Form W-4. Your withholding usually will
    be most accurate when all allowances are
    claimed on the Form W-4 for the highest
    paying job and zero allowances are claimed on
    the others. See Pub. 919 for details.”

    This is a good method because my wife is really “pro tax refund” where I see the fiscal problems with getting one back. Since I make more money, I can just claim a high number and let her claim 0.

    What I do at the end of this period with any refund is up for grabs. I came up with a moderately complex algorithm that figured out what percentage of the taxes should have come from each individual and then divided up the refund the reimburse based upon the percentage of taxes paid by each individual and the percentage of income of each individual. I think it may be simpler to give it to my wife though unless I was mistaken when calculating the withholding and we got an obscene amount of money back.

    Also, when I adjusted our withholding down, I started having the difference deposited into our savings account and earmark it as a “tax refund” account. At the end of the year, if we owe, I will pay from this fund and use the rest to pay down a credit card, put into normal savings, or spend.

  2. djc says:

    For a married couple who both work, one person would claim 9, for example, and the other person zero, otherwise they would be underwithheld on the second job.

  3. fred@opc says:

    This is just one example of how the IRS withholding system is downright silly. Why are we converting mortgage interest paid into withholding allowances at strange rates (like $3400 per). The withholding system was invented before the myriad tax deductions and credits were put into place, and it needs to be fixed. They tried to make something “easy” for the average joe and they actually ended up making it far more complicated.

    What’s even harder to calculate than a deduction is the effect of a tax credit (like the child tax credit or adoption tax credit). In this case, the taxpayer must contemplate their marginal tax bracket to back into the right math for the allowances. The whole concept is worth a post on its own.

    So why is the withholding system setup the way it is: The original idea what that people would get allowances for themselves, their spouses, and their kids. Since these things didn’t change much, it was simple, just to “set it and forget it.” Even though your paychecks went up, you wouldn’t need to adjust your withholding frequently.

    Nowadays, we have mortgage interest, child tax credits, energy credits, yada yada yada (TurboTax claims there are over 250 to choose from). For most of us, our tax situation changes every year, and we’re forced to address withholdings AT LEAST once every 12 months and sometimes more often. In worst case scenarios, we end up owing a penalty or giving the US Government a sizeable interest-free loan.

    One Project Closer

  4. F2O says:

    Since I was married last Spetember, we just had to figure all this out ourselves for 2007. We did exactly what Brandon explained. I claimed the deduction since I am the higher wage earner, and she claimed zero. We ended up just a tad short and had to pay a little over $100.00.
    BTW, I used the IRS calculator and plugged in all my numbers (my 9-5, her 9-5, plus both of our side incomes from teaching). We also made our w-4 changes in mid Jan. 07 since we knew that we would be filing jointly for 2007.

  5. thomas says:

    I’m in a totally different position. Both my wife and I claim 0 and we still owe money. My wife is a teacher so she gets paid pennies, and is taxed in the lower bracket. However our income combined puts us in the 25% so I have to make up that difference come April 15th. I’m wondering if buying a house will actually save me the hassle of owing money, of course i’d still have to find a way to afford a house where I live.

  6. Gary says:

    Are we allowed to use any number of exemptions? Or is there some limit to how many you can take?? -Gary

    • Charles Garrett says:

      10 is the max withholding allowances. Follow the instructions on the back of Form W-4.

      • mikestreb says:

        I have seen someone use Married 25… She made around $60,000 and they withheld ZERO! She was pissed when I told her she owed $8,000.

  7. Bennea says:

    last year my niece made about 24000 and on her w4 she calimed mairried filing joint and 0.
    Her company witheld a total of about 265.
    Should they not be witholding more.

    • Charles Garrett says:

      I’m not a tax expert but I’ve done my own taxes all my adult life. If your niece’s husband claims her on his W-4, then she should not claim herself and her withholding allowance should be 0. If her husband does not claim her, she could claim 1 for herself which would mean less taxes taken out. If your niece is paid biweekly like most $265/pp = $6890 per year in Fed taxes which in my opinion is too much for a wage of $24K. She should probably only by paying half that at most. Then she needs to look at what is being taken out for state taxes if she’s in a state that has a state tax. That may need to be adjusted as well.

  8. Bob says:

    What she was saying is that $265 was taken for the year…not per pay period. I have the same problem. My wife claims zero, so we can have the maximum taken out….she makes $26,000 annually and they took out $810 for the year….now I owe a ton. Why does this occur? I thought the less you claimed them more funds that were taken that not true?

    • mikestreb says:

      I run a tax prep business and I saw A LOT of this. The IRS said that the ‘Making Work Pay’ credit confused a lot of employers and led them to withhold too little.

  9. Melissa says:

    Wake up guys!!

    ALL reporting and filing is Voluntary if you are an American Citizen. Yes, you heard me and I am not a nut job. Check out this IRS law: 26 CFR 31.3402(p)-1. It says that if you don’t need to file a W-4 if you don’t work for the government, and are not an alien. No reporting means no filing, no refunds and no tax payments!! IF you do this, there are several statements on the web ready for your signature under oath.

    No one in the family has “worked” in years. Good luck to ya.

    • Jim says:

      Withholding may not be required but you still need to make tax payments, or you’ll be subject to penalties and interest.

    • mikestreb says:

      You are crazy (kind of like the nut job you referred to)… Good luck with that.

  10. Jacque says:

    Is there a way to figure out the percentage of taxes that will come out on each of your checks per number claimed? Ex. Claiming 6 will put you at x percentage, claiming 4 will put you at x percentage. I would prefer not to have a large refund come tax time, I would rather receive more on each of my checks throughout the year.

  11. RPetitti says:

    I’m wondering if my husband and I should both claim 0 allowances?
    I make more and claimed 2 allowances, one for myself and one for spouse. However, when I completed the 2 earners worksheet it came out to 0 allowances and $550 to be withheld additionally for the year. I told my husband to put a 1 down for himself and thats it, so now it has worked out that he has more allowances then I do. Do you think we are withholding enough for when we fill jointly?

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