We just got our tax refunds for 2005. (We filed for an extension.) It was a decent-sized interest-free loan to Uncle Sam.
It's true that we could increase my paychecks a little by withholding less. We could use the additional money to invest.
However, it's a game to try to get the withholding as low as possible. If you're not particularly detail-oriented (like myself) you can drop the ball and withhold too little. Then there are penalties.
I like having the tax refund, even though I'm not getting interest on that money. Getting a refund allows a few things:
- An easier extension process, if you need one. If you are owed money, filing for an extension is very litte work, as there is no tax to figure out at the time of the extension. Our state tax extension required no work at all.
- A cushion for self-employment tax estimated payments. (I think I understand the IRS rules here, but please pipe up if I don't!) Since income tax and self-employment tax are both paid with estimated tax payments (through paycheck withholding or by quarterly self-employment tax payments) you can stand having a little bit of side income without needing to do the quarterly estimated payments, since the extra withholding from your day job will cover it.
There may be others, but for me playing the withholding game is a little like doing arbitrage on 0% balance transfer offers. If you can keep track of everything, you can make money. But if you miss a repayment or withhold too much, you get hit with penalties and interest. I know myself here and I'd probably get burned.
So, I give an interest-free loan to Uncle Sam in exchange for a cushion.
Hi, A recap of the estimated tax payment thing. I posted a bit on 2 Nickels. Anyway, to avoid penalties, you need to file on time..an extension with a balance due will accumulate interest and penalties after the 4/15 deadline.
Next, you need to pay 100% of the prior years tax liability or 90% of the current years liability.
An Excel spreadsheet could help you here. In put your 05' return info into the spreadsheet. Then, hopefully you are using Quicken or another f/s software, take your year to dates and put them in a column next to the 05'. If it is September are you 9/12ths of the 05' balance? Higher? Lower?
Know your tax rate. Have the spreadsheet automatically calculate what you would owe. Remember you are setting it up like your 1040. You can check for rate changes at income levels on irs.gov.
If you do not use financial software, shame on you….then take your 3rd quarter ending statements and pull the numbers from there. (i.e. last paycheck for September, bank statements, investment accounts) If you have a self employment avenue, Create a 2nd page in your file and break out like the schedule C & SE and link these totals to your front page in the appropriate box for the 1040.
This system won't be perfect. But it will provide you with numbers close to where you actually are.
The hardest part will be set-up, but you can reuse the form each and every year after creation.
I'm with you. I prefer the refund. I've been in debt to the IRS Man and it's not fun. The only good thing about it is that the interest rate is fairly low compared to commercial lending.