For many people, tax withholding is a guessing game. When you start a new job, the W-4 that you fill out will tell your boss how much to withhold from your pay for income tax. When you calculate tax "allowances," you will probably end up with either too much withholding -- meaning that you'll get a refund -- or too little, meaning you'll owe the IRS on April 15. Getting a big tax refund means you've lent money to the IRS interest-free, which you might not want. At the same time, you probably don't want to be stuck with a big tax bill, either. That's why it's important to complete this form carefully.
The W-4 Basics
When you fill out the W-4 withholding certificate, you can claim anywhere from zero to 10 allowances. Each allowance shelters $3,900 of your salary from withholding as of the 2013 tax year. If you claim the maximum of 10 allowances, you're instructing the employer not to withhold on $39,000 of salary. For the portion subject to withholding, your employer uses a series of IRS tax tables to calculate the amount that should come out of your check each pay period.
One allowance is equal to one tax exemption. Therefore, you should claim an allowance for yourself, your spouse, and for each child or dependent you'll be claiming on next year's tax return. On its W-4 worksheet, the IRS also recommends an allowance if you will be filing as a head of household, and another if you have at least $2,000 of child or dependent care expenses. In addition, the agency recommends two allowances for each child tax credit you can claim, with some conditions depending on your gross income.
The number of allowances you claim can be influenced by other factors as well, based on your desire to have your employer withhold an accurate amount of income tax. If you have outside income from self-employment, investments or any other source, subtract one allowance for each $3,900 of taxable income you expect. If you'll be claiming tax write-offs such as investment losses or a higher mortgage interest bill, you might want to claim more allowances. You may also simply give your employer a dollar figure of additional tax to withhold from each check.
You can ask the employer to not withhold income tax at all, but the IRS puts some conditions on this. You must state on the withholding certificate that you didn't owe any tax in the previous year, and that you expect to have no tax liability this year. You certify this by writing "Exempt" on Line 7 of the W-4 and signing the form. If you claim exempt status and don't meet the conditions, you've committed perjury and will be hearing from the IRS. Also, payroll tax for Social Security and Medicare is withheld at a fixed percentage, and your employer is unable to exempt you from it.
Founder/president of the innovative reference publisher The Archive LLC, Tom Streissguth has been a self-employed business owner, independent bookseller and freelance author in the school/library market. Holding a bachelor's degree from Yale, Streissguth has published more than 100 works of history, biography, current affairs and geography for young readers.