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Facing pushback over their tax reform plans late last year, Republicans in the House and Senate tried to garner public support for the legislation by promising lower taxes for all.
“So I am going to encourage the American people, in January, take a look at your pay stubs,” Sen. Ted Cruz (R-TX) said at the time. “Let me tell you, for virtually every American taxpayer in this country, your taxes will go down.”
But as tax pros are reminded every time Congress pushes through 11th-hour tax legislation, the IRS isn’t always ready to roll out lawmakers’ intended changes as soon as the calendar turns to a new year. It took a few weeks for the IRS to release Notice 1036 updating the income-tax withholding tables for 2018 to reflect the changes made by the Tax Cuts and Jobs Act, or TCJA.
From there, payroll companies and employers had to update their systems to implement the new withholding tables. The IRS told employers they should “implement the 2018 withholding tables as soon as possible, but not later than Feb. 15, 2018.”
So you may have already received your first paycheck that uses the new withholding table. What’s changed and what’s stayed the same? We’ll help you go box-by-box through a typical paystub to see what’s different now that payroll processors are using the updated 2018 withholding tables.
An overview of withholding changes
Treasury Secretary Steven Munchin says, “We estimate that 90% of wage-earners will experience an increase in their take-home pay.”
This is because tax reform temporarily lowered tax rates for virtually all income levels and nearly doubled the standard deduction. To reflect those changes, the 2018 withholding tables reduced the amount that employers should withhold for federal income taxes.
Most people will see the effect of tax reform in two places on their pay stub:
- Federal Tax Withholding — This is the amount your employer withholds from your paycheck for federal income taxes. Your employer sends the funds to the federal government on your behalf and reports the total on your W-2 at year-end.
- Net Pay — This is the amount of money you keep from every paycheck after your employer has withheld federal and state income taxes, payroll taxes and other deductions. It’s also known as your take-home pay.
How much of a difference will it make to you?
If you haven’t yet received a pay stub reflecting the updated withholding tables, there is a way to estimate how much you can expect your take-home pay to increase.
1. Grab a pay stub from January and look at how much federal income tax your employer withheld.
For our example, we’ll use a sample pay stub for our friend Alex.
Alex’s pay stub shows his employer withheld $277.08 from his pay for federal income tax on Jan. 15, 2018. Since Alex received this paycheck before the IRS asked employers to begin using the new withholding tables, his employer used 2017 tax rates to calculate his withholdings.
2. Next, take your gross income for the pay period. You can find this under “Gross Pay” on your pay stub, or just divide your annual salary by the number of times you get paid per year — 52 for weekly paychecks, 24 for semimonthly paychecks, 26 for biweekly.
Alex’s gross pay is $2,083 per pay period.
3. Now, you need to know how many allowances you claimed on line five of the Form W-4 you filled out when you started your job.
If you don’t know, your payroll department can provide that information. Multiply the number of allowances you claimed by the payroll frequency factor, which is found on the first page of Notice 1036.
Alex gets paid twice a month (semimonthly), and his pay stub shows he claimed one allowance on his Federal W-4. That allowance is worth $172.90 under the new withholding rules.
4. Subtract the allowances amount calculated in the third step from your gross pay determined in the second step. This is the amount of wages you’ll use to determine your new withholding amount.
Alex’s wages for the new withholding are $1,910 ($2,083 of gross pay minus $173 for his one allowance).
5. Now, go back to Notice 1036 and find the table that corresponds to your pay frequency and filing status. We’ve rounded numbers here, since the IRS allows it.
Alex is paid semimonthly and is single, so he uses Table 3, Column (a). The table shows his withholding is $186 plus 22% of the amount in excess of $1,767.
Here’s the calculation to determine his new withholding.
- $1,910 (gross pay minus allowance) – $1,767 = $143
- $143 x .22 = $31 (rounded to the nearest dollar)
- $186 (from the withholding table) + $31 = $217
So Alex’s new withholding is $217. His employer will withhold that amount for federal income taxes from every paycheck.
Alex can expect his take-home pay to increase by about $120 per month.
- $277 (his prereform withholding) – $217 (postreform withholding) = $60
- $60 x 2 (times he’s paid in a month) = $120 (rounded)
What else might change?
The IRS designed the new withholding tables to work with the Form W-4 you’ve already given your employer. However, the IRS also announced it’s in the process of revising Form W-4 to reflect other changes to tax law that resulted from the TCJA, including itemized deductions, increases in the child tax credit and the repeal of personal exemptions. So there’s a good chance your withholding will change again in 2019.
Meanwhile, if it’s been a while since you filled out a Form W-4 for your employer, you just might want to revisit it. Life events such as marriage, divorce and having children can have a big impact on your recommended withholding. You’re required to complete a new W-4 whenever you start a new job, but it’s a good idea to fill out a new one any time you have a change that could affect your taxes.
This time of year, you might be focused on filing your taxes for last year. But now that some of the provisions of tax reform have begun to take effect, it’s the perfect time to make sure you’re not having too much or too little tax withheld for 2018.
Changing your allowances will alter the amount your employer withholds from your paycheck for federal income taxes. If you have too little withheld, you could wind up owing Uncle Sam big bucks in 2019 when you file your 2018 taxes. Take out too much, and it’s like giving the government an interest-free loan for the year — even though you’ll probably get it back as a refund in 2019.
The longer you wait, the less time you’ll have to adjust your withholding before year-end and make sure the right amount of taxes gets withheld.