How To Change Your Tax Withholding Amount

Understanding how to change tax withholding is important to ensure you’re paying the correct amount to the IRS and you’re not surprised when a larger-than-expected tax bill rolls around.

Whether you overpaid or underpaid the federal government last year, you can fine-tune the amount of money that your employer takes out of each paycheck by adjusting your financial and filing status on a new IRS Form W-4.

What Are Tax Withholdings?

Your withholding is the amount of money your employer takes from your paycheck to cover your federal income taxes. The goal is to make sure that the government takes enough money from your paycheck each year that you won't owe any money when your income taxes are due the following year. If there aren’t enough taxes withheld from your paycheck, you could owe income taxes. On the flip side, if you have too many taxes withheld, you may end up receiving a tax refund.

Tax Withholdings Vs. Estimated Tax Payments

Tax withholdings are the amount of taxes withheld from a regular paycheck each pay period — employers are responsible for calculating these withholdings based on the information an employee gives.

Estimated tax payments are applicable to self-employed individuals who are responsible for paying their own income taxes and expect to earn more than a certain amount. Estimated tax payments are made each quarter and are based on income earned for the specified time period.

Why Are Tax Withholdings Important?

You want enough money withdrawn from each paycheck so that you reduce the chances you’ll owe taxes, but not so much that you’re owed a big refund from the IRS.

You might think getting a big refund is a nice financial reward. But in most cases, it’s not. A large tax refund means that you lent the federal government a big chunk of your money throughout the year in the form of an interest-free loan. It may have been better to have more money with each paycheck, money that you could have invested or saved on your own.

Why Might You Change Your Tax Withholdings?

In most cases, you’re fine if you’re happy with what happens when you file your income tax each year. However, there are several circumstances where you may want to adjust your tax withholdings. Reasons include lifestyle and income changes.

Lifestyle Changes

Some lifestyle changes may warrant a change in your tax withholdings, such as:

●      Marriage: Having a spouse can change your filing status and qualify you for different types of deductions.

●      Divorce: No longer having a spouse also triggers a different filing status, and potentially changes the deductions you qualify for.

●      Birth of child: Having a dependent can change the amount of taxes you need to pay, as there are certain deductions for those with children.

Income Changes

Some income changes that may warrant a tax withholding adjustment include:

●      Additional stream of income: If you have a second job or your income changes, then you may need to adjust your withholding.

●      Income that doesn’t qualify for withholding: Some income isn’t subject to withholding, such as interest income, dividends, capital gains and qualifying distributions.

●      Tax deductions and credits: If you have alimony expenses or qualify for the student loan interest deduction, for example, you may consider changes to your withholding.

How To Adjust Your Tax Withholding Amount

Understanding how to change federal tax withholding involves the following three steps.

1. Check Your Current Withholding Amount

Determine your current withholding amount using the IRS Tax Withholding Estimator. Consider checking your withholdings early in the year, or when tax laws change, as advised by the IRS.

2. Determine A New Withholding Amount

Once you’ve looked at the current withholding amount, decide whether this amount is fine, you want to withhold more, or less. You can use the withholding estimator to see how different withholding amounts can affect aspects such as your take-home pay and refund amounts.

Results Of Increasing Your Withholding Amount

The main advantage of increasing your withholding amount is so that you’re paying the correct amount of taxes, and you’ll decrease the chances of you owing money when you file income taxes. However, it could mean your take home pay is lower.

Results Of Decreasing Your Withholding Amount

The main advantage of decreasing your withholding amount is a reduced tax refund, and the potential to keep more money in your take home pay. However, if you’re used to a large tax refund you may be disappointed in your return after you make your adjustments.  

3. Fill Out Form W-4

You need to fill out a new Form W-4 in order to adjust your withholdings. There are five sections in this form:

●      Step 1: Enter your personal information such as your name, address and filing status.

●      Step 2: You can skip this step if you want your employer to withhold the full amount of taxes from your paycheck based on your filing status. This amount will change, of course, depending on whether you file as a single taxpayer, married taxpayer filing separately, married taxpayer filing jointly or as a head of household.

●      Step 3: You will name any dependents you want to claim, as well as any other relevant tax credits in this step. The form will instruct you on how to make the necessary calculations.

●      Step 4: This step is optional, and is where you put in the amount you earn from other jobs, make extra withholdings or name any relevant deductions.

●      Step 5: Here, you’ll sign and date the form.

How Often Should You Change Your Tax Withholdings?

You don’t need to change your tax withholding each year assuming your financial and life situation is the same. The only times you’ll need to consider changing your withholding is if there are significant changes, such as getting married, divorced, or you have an additional job. Or, you got caught with a large tax bill and want to lower the amount you owe come tax time.

The Bottom Line

Periodically evaluating your tax withholdings can help you ensure you’re paying the right amount of taxes without overpaying or owing a large amount when filing your taxes. The W-4 form makes it easy to adjust your withholding, and the IRS tool can help you estimate your withholdings.

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