It is almost time! 5 days from now the IRS will open their E-file system for 2021 tax returns. In all of the chaos of the past two years, I thought it would be helpful to share some insights, small as they may be, into the world of tax filing during a pandemic and beyond. Today continues my 10 Day Countdown, check back each day for more tips and tricks.
Day 5 – Why is box 2 empty?
Our firm offers payroll services to small businesses in Southwest Michigan. We are currently processing thousands of W-2 for these clients and their employees. We are also fielding phone calls asking us why there was no federal withholding listed in box 2 of their W-2. Believe or not, this is an annual occurrence. Here are some tips to be sure you are not taken by surprise during W-2 season.
#1 – Keep an eye on your paycheck stub
In our digital world, it is very easy to get your direct deposit each pay period and never open the app or website to look at your pay stub. I fall into those bad habits, as well. A couple of weeks ago, I pulled out one of my husband’s check stubs and did a “what you talkin’ bout, Willis?!” when I looked at the federal withholding. However, I have a solid understanding of how the withholding for paychecks works.
#2 – Understand how payroll withholding works
Payroll software is honestly flawed when it comes to multiple income households, but the only way to fix it is to disclose all income you and your partner make to every employer involved. This is a less than ideal situation.
Considering that information, payroll software only has as much information as we give it and when it calculates the amount of tax due it only sees one part of your income. For example, if you and your partner both earn $50,000 each, the payroll software bases the tax withholding as follows:
Partner 1 Wages $50,000 Partner 2 Wages $50,000
Standard deduction $25,100 Standard Deduction $25,100
Taxable Income $24,900 Taxable Income $24,900
Tax Withheld $2,593 Tax Withheld $2,593
When Jointly Filed Tax Return is calculated:
Total Wages $100,000
Standard Deduction $24,900
Taxable Income $75,100
Tax Due $8,617
Tax Withheld $5,186 (as shown above)
Balance Due $3,431
It is never a good day when I must explain how a couples withholding is not enough, but as illustrated above, it happens more than people realize.
My advice on this one – make changes to your W-4
#3 – Make changes to your W-4
Most people only think about their W-4 form when they start a new job and need to fill out the paperwork for human resources but forget about the impact the form has on their taxes. When the IRS redesigned the W-4 in 2020 they created a form that allows you to almost match your tax due each year.
Step 1 is deceptively easy – name, address, social security number, and your tax filing status. Super simple, right? Well…it is complicated.
Our example above shows what happens when both spouses mark the Married Filing Jointly box. In this case, I would recommend the spouse with the higher earnings change to the Single or Married filing separately box. This will help to counteract the under withholding that occurs as seen above.
Other reasons to change your W-4 would be getting married, getting divorced, or adding a child. All of which have their own pitfalls, be sure to consult your tax pro for more information regarding your individual situation.
Check back later today for information on dependents – they too are complicated.