Check your W-4 withholdings: You may be giving the government an interest-free loan

Check your W-4 withholdings: You may be giving the government an interest-free loan
Eileen St. Pierre, The Everyday Financial Planner

I remember going through new employee orientation at my first job out of graduate school as if it was yesterday (it was almost 22 years ago). After the benefits representative briefly talked about filling out the mandatory W-4 form, a woman asked “What do I put down if I want the most money back from the government when I file my taxes?” The representative said “0.” The woman quickly filled in her “0” on her form, left the room, and I never saw her again.

Why is the W-4 form important?

Form W-4 tells your employer how much money to deduct from your paycheck for federal taxes. Specifically, you list the number of withholdings which should roughly match the number of people who depend on your income. The more withholdings, the less money is taken out for income taxes, the greater your take-home pay.

If you do not withhold enough, you will owe money to the government when you file your taxes. If you owe too much, you may have to pay a penalty for underpayment of estimated tax.

  • Fill out a new form whenever your family situation changes.
  • New baby in the family? Increase your withholdings by 1.
  • If you have no idea what you put down on your W-4, perhaps it’s time for a visit to your payroll department to find out.

tax refund.pngIf you withhold too much, you are giving the government an interest-free loan.

Yes, the government will owe you money when you file your taxes so you will get a bigger refund. No, the government will not pay you interest on this money. Thus, the woman in my story above who put down “0” gave the government an interest-free loan. I don’t know about you, but I think the government borrows enough money – they don’t need to keep any more of my money.

I have never been a “0.”

Even when I was single, I never put down 0. I always claimed one dependent – me! Throughout my entire working career being married with no kids, I always put down 3 withholdings, not 2. My goal is to have my actual tax bill equal the amount withheld from my paycheck. Any tax refund goes into our IRAs.

Being a “0” can lead to increased debt in the long run.

It’s hard for me to scold someone for being a “0.” For some people, it’s the only way they can save money. It’s hard to save money. But by having too much taken out of each paycheck, you run the risk of having to use credit cards to fund shortfalls. There is no money left over each pay period for emergencies. Instead of giving that extra money to the government, give it to yourself. Have it automatically transferred to a savings account. I have faith that you can spend it a lot more wisely than the government.