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Is Tax Withholding the Way to Balance Your Budget?

tax-withholding-to-balance-your-budget

Jul,02,2015

By:Mike Cibik

In the last week or so I’ve had no fewer than three clients tell me that they changed their payroll tax withholding to claim the maximum deductions because it was the “only way to pay the bills.” I’ve seen people do that, and tried to help them fix the consequences, for many years, but lately it seems to be a trend. It’s a clear example of faulty thinking, and it has potentially dire consequences. People know they shouldn’t, but somehow it seems an acceptable option.

Here’s where the faulty thinking comes in. People tell me they change their withholding so they can pay their bills. Well, if you are changing your withholding so you break even and don’t get a refund at the end of the year, then fine, I’m with you. But if you change it so that you owe taxes at the end of the year, you haven’t paid your bills, you’ve just traded one bill for another. And the one you’ve traded for is the Big Kahuna, the 600 pound gorilla, the creditor who can garnish your wages, attach your bank accounts, and reach assets no other creditor can reach. They have more power and more tools than virtually any other creditor. So that’s who you’re going to choose to owe?

Moreover, the IRS has tools to stop your under-withholding, but they don’t just make you stop. If you can’t pay the taxes you owe because you are under-withholding, the IRS may instruct your employer to withhold as if you have zero deductions-withhold the maximum-and they won’t let you change it back. This is called a “lock-in letter.” Then, of course, in every subsequent year that you are entitled to a refund, the IRS will keep your refund to pay the back taxes. And this could be in addition to, not just instead of, a wage garnishment or other collection activity. So, if you were having trouble paying the bills before, imagine how hard it will be when about a third of your paycheck is going to the IRS.

If you have been claiming more deductions than you are entitled to so far this year, now is the time to try and fix it, but it’s going to be painful. You can change your deductions so that you will not owe (or won’t owe so much) next April. If you’re under-withholding, it’s a clear sign that you need help.

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