Have you ever wondered how employers arrive at the amount of tax to withdraw from your paycheck? The W-4 is an Internal Revenue Service (IRS) form that allows you to tell your employer how much tax to withhold from your paycheck.
Accurately completing your W-4 can help prevent a big balance due at tax time or avoid overpaying taxes. Here is a guide to help you know more about your W-4.
What is a Form W-4?
The IRS expects you to pay taxes for your earnings. However, you may be exempt if your income type is expressly excluded from taxation. These may include disability insurance payments, health savings, and financial gifts. However, suppose you are employed and earn above certain amounts. In that case, you’ll almost certainly need to pay taxes on your earnings.
Also referred to as ‘Employee’s Withholding Certificate,’ the W-4 form is the paperwork you submit to ensure you withhold the right amount of taxes when you start a new job. You use it to report relevant information related to your tax situation.
Employers can then use it to calculate the estimated tax to withhold from each of your paychecks and remit to the IRS on your behalf. The employer must provide a W-2 form each year’s end to show your earnings and what was withheld and forwarded to the IRS.
You do not need to fill out a W-4 each year. However, you need to fill a new one when you start a new job. Or undergo a significant life change such as getting married or having a baby, providing a great excuse to review your withholding.
How to fill out a W-4 form
There are various sections you need to fill out, requiring you to:
- Provide your personal information, including your name, address, Social Security number, and tax-filing status. This information will determine your standard deduction and the specific tax rate your employer will use to compute your paycheck withholding.
- Account for multiple sources of income: The W-4 form will help you estimate the accurate withholding if you have more than one job or income source. Or file taxes jointly with your spouse. This amount will depend on the income earned from all the sources, such as self-employment pay, interest, dividends, or retirement income, including your spouse’s.
However, worry not if you don’t want to disclose that you have a second job or other income sources to your employer. The form provides you with a few options. For one, you can instruct your employer to withhold an extra amount from your paycheck.
Alternatively, you decide not to include the additional income in your W-4. Then instead of the tax coming directly out of your paycheck, you can send estimated tax payments to the IRS individually.
- Claim dependents, including children: If you have children or other dependents, follow the instructions to determine the child tax credit and the credit for the other dependents. You can claim this amount when you file your return, helping you reduce your tax bill.
However, even when you have dependents, you can choose not to claim dependents, especially if you need your employer to deduct more from your paycheck.
- Refine your withholdings: Suppose you want your employer to withhold extra tax amounts or expect to claim deductions other than the standard one. In that case, you can note it down in this section.
- Sign and date your W-4: Once you complete the form, hand it over to your human resources or payroll team. Some organizations allow you to complete the form online through their payroll system. Find out if this option is available to you.
How to estimate income tax?
You can use the online Tax Withholding Estimator to calculate the estimated tax for individuals, as the IRS recommends. Employers use the IRS Publication 15-T to calculate the amount of tax to withhold from employees’ paychecks.
Exemption from tax withholding
You can use Form W-4 to declare yourself exempt from withholding. It will prevent your employer from withholding any money from your income. But only if you are legally exempt from withholding, either because you had no tax liability for the prior year or expect no tax liability for the current year.
For example, suppose you are a single taxpayer who earns approximately $7,000 each year. In that case, you will not likely owe federal income tax. The reason is that the standard deduction you can claim on your tax return would probably eliminate the possibility of owing tax on your $7,000 earnings.
What happens if you fail to submit a W-4?
Employers need current W-4s to withhold the correct federal income taxes for employees. If an employee does not complete and submit the form, the IRS requires the employer to withhold taxes at the highest withholding rate possible.
When do employees need to complete the W-4?
Employees should complete their W-4s immediately after they start a new job and before receiving their first payment to ensure accurate tax withholding. According to the IRS, employers must implement updated payroll deductions 30 days after receiving a W-4.
If employees fail to submit their W-4, employers use the same withholding amount from previous forms. For new employees who fail to complete forms, employees make deductions assuming they will file as single with no allowances.
What is the difference between a W-2 vs. W-4 vs. 1099
A W-4 is a form you must fill out when starting a new job in a new company or when your financial situation changes. It guides your employer on how much to withhold from your salary or wages to remit to IRS. Form W-2 also called the ‘Wage and Tax Statement,’ shows the total amount the employer paid and the withholding they deducted from it during a tax year. Employers are required to send employees a W-2 by the end of January each year. Freelancers or contract workers typically get 1099 from their clients, not W-2s.
Conclusion
Suppose you incorrectly calculate estimated tax and too much money is withheld from your paychecks. In that case, you gave the federal government an interest-free loan and earned yourself a tax refund. Do the opposite and withhold too little; you could get an unexpected tax bill, a penalty when you file your return, or even a penalty for underpayment. Update your W-4 when you experience a significant personal life change or have a change in income to avoid this uncertainty. Whenever in doubt, don’t hesitate to seek help from the experts!
