What is the purpose of withholding tax and how much do you need to withhold in order to make sure you don’t get surprised at tax time?
In the most basic of terms, a withholding tax is an amount that an employer withholds from employees’ wages and pays directly to the government. The amount withheld is a credit against the income taxes the employee must pay during the year.
Regarding business owners; all business owners must withhold payroll taxes. As a business owner, you are legally obligated to do it, so payroll taxes are something you really need to plan for so that you will avoid any penalties from the IRS.
Why is understanding Withholding Tax so important to you?
Because doing so, will educate you and provide a clear picture of what you may receive or owe at tax time. Result? No worry or stress and even if you are a taxpayer who will owe, you have the needed time to get ahead in preparing in advance of your tax bill due date.
Here is What You Need to Know About Withholding Tax.
1. How Withholding Is Determined?
First, know that the amount of income tax an employer with-holds from regular pay depends on three things
- The amount you earn in each payroll period
- Your payroll periods
- The information you give an employer on IRS Form W-4
Form W-4 includes four types of information that an employer will use to figure out with-holding taxes.
- Whether to withhold at the single rate or at the lower married rate
- How many withholding allowances you claim
- Whether you want an additional amount withheld
- Whether you are claiming an exemption from withholding in that specific year
THE AMOUNT WITHHELD DEPENDS ON…
- The amount of income earned
- Three types of information an employee gives to their employer on IRS Form W-4
- Filing Status: either the single rate or the lower married rate
- Number of withholding allowances claimed. Each allowance claimed reduces the amount withheld.
- Additional withholding. An employee can request an additional amount to be withheld from each paycheck.
2. Everyone Should Check Withholding!
- The IRS recommendation is that everyone should do a Paycheck Checkup.
- By doing this now and potentially changing your withholding now, the IRS states that all taxpayers can get the refund they want next year.
- If you owe taxes, increasing your tax withholding in 2019 is the best way to get ahead of any potential tax bill for next year.
3. When To Check Withholding?
- Earlier in the year, though if you have not done so already, check your withholding immediately and consult with a tax professional
- When Tax Laws Change: As they did in 2017
- When your Life Changes: A new marriage, a divorce, birth or adoption of a child, home purchase, retirement, filing chapter 11 bankruptcy
- If your Wage Income Changes: you or your spouse start working, stop working or begin a second job
- When you have Taxable Income Not Subject to Withholding – Interest, dividends, capital gains, self-employment and gig economy income and IRA distributions
- When you have Itemized Deductions or Tax Credits – Medical expenses, taxes, interest expense, gifts to charity, dependent care expenses, education credit, Child Tax Credit, Earned Income Tax Credit
4. How to Check Your Withholding?
- Use the IRS Tax Withholding Estimator.
- The Tax Withholding Estimator will help you determine whether you need to give an employer a new IRS Form W-4
- Whether you are single or have a family; with tax reform now a reality, it’s important to know the basics
- There is a lot to know about Tax Withholding and Estimated Tax. If your tax situation is complicated, your best move is to contact a tax professional.
5. How to Change Withholding?
- Complete a new Form W-4, Employee’s Withholding Allowance Certificate, and submit it to your employer
- Complete a new Form W-4P, Withholding Certificate for Pension or Annuity Payments, and submit it to your payer
- Make an additional or estimated tax payment to the IRS before the end of the year.
The Benefits of Tax withholding are two-fold. First, tax withholding enables the government to get a steady stream of income throughout the year, as employers and self-employed people generally remit tax on a quarterly basis.
The Big Benefit for Employer and Employee is in planning ahead.
This will make it less likely that you will be unable to pay your required taxes on time.
At Borshoff Consulting, we work for you and our plan is to always help you keep more of your money. Schedule your free consultation today.