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While the W-4 is a simple form, knowing the right number of allowances to put down can make it seem complicated.
Your W-4 tells your employer how much money to withhold from your paycheck and send to the federal government on your behalf throughout the year.
The IRS has introduced a draft of a new W-4 form that plans to eliminate allowances and changes are planned to take effect in 2020. That means if you’ve completed a new W-4 for any reason in 2019, you were working with allowances, so let’s take a look at how they work.
- What are W-4 allowances?
- What are W-4 allowance worksheets?
- When might I claim more or fewer allowances?
- How can I change my W-4 allowances?
With the U.S. income tax system, you pay as you go. By the time Tax Day rolls around, the IRS typically expects you to have paid at least 90% of all the tax you’ll owe for a tax year. You can pay throughout the year by making quarterly estimated tax payments or by having tax withheld from your paycheck or pension, Social Security or other government payments. You can also do both — make estimated payments and withhold money from your checks.
If you opt to have tax withheld from your wages, that’s where Form W-4 — and the number of allowances you claim on it — comes in.
“Withholding allowances are a way to tell your employer (and the federal government) how much income you expect to be exempt from tax in advance of filing your tax return,” says Jennifer Rickle, a certified public accountant with WellPlanned Finance.
For each allowance you claim, your employer will take less tax money out of your paycheck. Each allowance lets you claim that part of your income isn’t subject to taxes. So if you’re eligible to claim more allowances — and more of your income isn’t taxed — you’ll have more money left in your paycheck. But be careful. If you don’t pay enough tax throughout the year, you’ll owe the IRS come tax time and could be subject to penalties.
Here’s another way to think about it.
|If you’re eligible to claim …||You’ll have …||Which could mean a …||And might increase your chance for a …|
|Fewer allowances||More income tax withheld||Smaller paycheck||Refund|
|More allowances||Less income tax withheld||Larger paycheck||Tax bill|
How much is an allowance worth?
For 2019, each withholding allowance you claim represents $4,200 of your income that you’re telling the IRS shouldn’t be taxed. Keep in mind that you still need to settle up your tax liability at the end of the year by filing your tax return. This is when the actual amount of tax you owe will be compared with how much tax you’ve paid throughout the year.
What’s the difference between a Form W-2 and a Form W-4?
You use the W-4 form to tell your employer how much federal income tax to withhold from your paycheck. But your employer gives you a W‑2 form to report the wages you received and how much federal income tax you’ve already paid.
Now you know what W-4 allowances are. But how many W-4 allowances should you take? Each person’s tax situation is unique, but when it comes to estimating how many W-4 allowances you should claim, you don’t have to make a wild guess.
When you get a Form W-4 from your employer, it will come with a few worksheets that can guide you through estimating how many W-4 allowances to take.
Personal Allowances Worksheet
You’ll find the Personal Allowances Worksheet on the third page of Form W-4. This form can guide you through a basic rundown of how many allowances you’re eligible to claim, and whether you’ll need to fill out the more-complicated worksheets that follow.
Deductions, Adjustments and Additional Income Worksheet
This form addresses what to do if you expect to itemize deductions, can claim certain adjustments to income, or earn money other than your wages, like interest or dividends.
Two-Earners/Multiple Jobs Worksheet
You may need to use this worksheet if you earn wages from more than one job at a time and the combined earnings from your jobs exceed $53,000. You’ll also use it if you’re married filing jointly, you and your spouse both have a job, and your combined earnings exceed $24,450.
You can also use the IRS withholding calculator to estimate your allowances.
Even though the Personal Allowances Worksheet can be helpful when it comes to estimating how many allowances to claim, there may be times when you want to choose a different number of allowances than it recommends.
“You can certainly choose to claim zero allowances, which will decrease your take-home pay,” says Rickle. “This makes sense or may be necessary for individuals with other sources of income for which tax isn’t being withheld, like interest or dividends.”
Say you’ve got a side hustle but you’re not required to make estimated quarterly tax payments. You might claim fewer allowances on your W-4 to help cover any tax you would owe on your side-gig income.
It’s also important to realize that just like your financial situation, Form W-4 isn’t set in stone. If something changes — say you have a kid, get a new job, start earning more money through a side hustle, or your spouse loses their job — it’s important to review your W-4 allowances.
And if the number of withholding allowances you can claim actually goes down, you have to resubmit a new W-4 with the lower withholding allowances within 10 days of the change. If your situation changes, you can update your W-4 and submit it to your employer.
Calculating how many W-4 allowances you should take is a bit of a balancing act — though you might not have to manage it in the future if the new allowances-free W-4 takes effect.
Generally, the fewer allowances you claim, the more tax will be withheld from your paycheck. That could mean you overpay your taxes throughout the year, getting smaller paychecks — but you’ll most likely get a refund after filing your tax return. But remember, a refund is just Uncle Sam repaying the interest-free loan you gave the federal government throughout the tax year.
If you claim too many allowances, you might actually end up owing tax. And if on Tax Day you still owe more than 10% of your total tax obligation for the year, you could face a penalty. If you intentionally falsify how many allowances you claim, you could be subject to a hefty fine and criminal penalty.
Understanding how W-4 allowances affect your federal income tax withholding can help you take control of exactly when you pay your tax obligation to the federal government. Adjusting your allowances can mean either keeping more money in your pocket throughout the year or getting a refund when tax time comes.
Troy Grimes is a tax product specialist with Credit Karma Tax®. He’s worked in tax, accounting and educational software development for nearly 30 years. He has a bachelor’s degree in business administration with an emphasis in business analysis from Texas A&M University. You can find him on LinkedIn.