From IRS: Since federal taxes operate on a pay-as-you-go basis, taxpayers need to pay most of their tax as they earn income. Taxpayers should check that they're withholding enough from their pay to cover their taxes owed, especially if their personal or financial situations change during the year. To check withholding, taxpayers can use the IRS Withholding Estimator. If they want to change their tax withholding, taxpayers should provide their employer with an updated Form W-4.
This year, many of my clients have received notices from IRS assessing an “estimated tax penalty”. Also referred to as an “underpayment penalty”, this occurs when you don’t pay in enough throughout the year. Surprisingly, the penalty can even be assessed if you are due a refund (usually in situations where a large fourth-quarter payment was made instead of paying in gradually throughout the year.)
Usually underpayments happen to taxpayers who have self-employment income or investment income (income that usually does not have taxes withheld from it) but I have had clients this year who have been assessed the penalty when their only income was from W-2 wages, and their employer simply did not take enough out throughout the year. This seems unfair, but unfortunately it has been happening to many people ever since they updated the W4 withholding form and accompanying tables in 2020.
The IRS says”The new design reduces the form's complexity and increases the transparency and accuracy of the withholding system. While it uses the same underlying information as the old design, it replaces complicated worksheets with more straightforward questions that make accurate withholding easier for employees.”
This has not been my personal experience or the experience of the majority of taxpayers that I work with. The new form has proven to be more complicated, more confusing, and far less accurate than the old withholding form that was in effect pre-2020.
In addition, I have seen many taxpayer’s withholding change from one year to the next, even when they have not completed a new W-4 form, meaning the employer withheld less throughout the year without the employee being aware, and then at the end of the year they ended up owing because of the shortfall.
It’s been disappointing and definitely not a fun part of my job to have to tell people they owe taxes when maybe they are use to or expecting a refund.
The good news is, I can help you get your withholding on track. If you owed taxes last year when you filed, or if you believe that not enough taxes being with you from your paycheck, I offer W-4 withholding consults for $150. I will ask for your most recent pay stub (and most recent tax return if you aren’t a client of mine) and do my own calculations and projections to come up with a recommendation (and can even help you complete a new W4 withholding form that you can turn in to your company’s HR/payroll department.)
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