If you pay more taxes than you owe during the year, you may receive a tax refund. When your tax rate, deductions, payments, withholding and income remain the same from year to year, your refund usually stays the same too. However, a change in any one of these factors can cause your tax refund to decrease.
Change in Tax Rate
Your income tax rate is determined primarily by the amount of your taxable income. If your taxable income increases, you may move into a higher tax bracket. Even if your taxable income remains the same, the IRS alters its tax tables periodically. In either case, a higher tax rate can result. When you owe more tax for the year but your payments and withholding remain the same, your tax refund will decrease.
Deductions and Credits
When you claim tax deductions, the amount of your taxable income decreases. When you claim tax credits, your tax liability decreases. If you were able to claim certain deductions or credits in the previous year but didn't qualify for them in the current year, your taxable income may be higher for the current year. Even if your tax rate doesn't change, a higher taxable income leads to a higher tax liability, which in turn causes a lower refund.
Payments and Withholdings
Throughout the year, your employer withholds a certain amount of your income for tax payments. If you are self-employed or have business income, you may also make estimated tax payments on your own. If either your withholding or your estimated tax payments decrease from one year to the next, your tax refund may decrease as well.
If your income increases from one year to the next, you may increase your withholding or estimated tax payments to compensate. However, if you don't make larger payments to the Internal Revenue Service during the year, the higher tax liability that results from an increase in income can cause you to receive a lower refund.
Though many people are disheartened by the idea of a lower refund, it isn't necessarily a bad thing. When you receive a refund from the IRS, it usually means that you have overpaid your taxes for the year, which is the equivalent of loaning your money, without interest, to the government. Instead of paying more money to the IRS than you need to, consider using this money to fund an IRA or reduce your credit card debt.
Amanda McMullen is a freelancer who has been writing professionally since 2010. She holds a bachelor's degree in mathematics and statistics and a second bachelor's degree in integrated mathematics education.