I’m not asking for legal advice, just common sense/experience, please.
I read some advice from a money manager who said if you’re getting back large tax returns, you should claim no tax witholdings and throw the money in a CD or interest-bearing savings account and pay the whole amount on April 15.
So, what’s your thinking based on the following:
-I’m a good saver, so I wouldn’t be spending the extra payroll $, I’d put it in a 6-month CD or something similar
-I get back a hefty tax return each year from the Feds
-I figured that I could meet my tax bill AND have the cash to pay off my car and all my credit card debt.
You should adjust your withholding to match what you actually owe. If you go too far below what you owe, you will have to pay penalties at tax time. If you go too far above what you owe, you are losing the interest on the monies that you have loaned the government.
I think it would be a better option to have enough withheld to owe less than 10% of your total tax bill at the end of the year. Any more than that and you will be charged a under-withholding penalty, which appears to amount to about 4% interest charged on the underpaid amount. If you know of a six-month, non-shady CD that pays that, post-tax, please share.
There are very specific rules about when you can claim “EXEMPT” from income tax withholding. But in general, you can only do it if you are sure you would get a refund of ALL your withheld taxes. Getting a very large refund is not enough.
As mentioned, you do want to have at least enough withheld to prevent any underpayment. That’s 90% of the current year’s taxes or 100% of last year’s (110% for some).
My usual advice to clients is to aim for a $500 refund. There’s always some variance in tax laws at the end of the year compared to the beginning, and there’s usually some kind of income you forget to include your estimates through the year. Aiming for a small refund will cover those unexpected issues and will also more than cover the cost of tax prep.
Of course, an even better solution is to find a tax preparer who does a planning session before the end of each year. (I do it in November). Then you can get a pretty precise estimate and the preparer may have ideas for deductions that you can take advantage of before the year ends.
A tax return is the paperwork you file. A refund is the money you get back.
Agree with above, having zero withholding is a terrible idea, this money manager sounds odd…
I have to ask, how do you get this bonus? Is it a single $10,000 check, or do they take takes out? If the former, you’ll probably get a 1099 for it, and be prepared that you will owe taxes on that. If the latter, it will probably show up on your W2, and they will probably tax out EXTRA taxes as it’s usually in a higher tax bracket. You’ll get that back in the refund, but it means you’re withholding too much.
The common sense here is legal advice. It’s illegal to wait until April 15 to pay your taxes. At a minimum, you’ll be charged a large fine (one source I saw said the fine is equal to the amount you owe, with interest on top of that).
A fine that large would be reserved for unusual cases, but is possible.
Most often, the fine is calculated based on the interest the government would have save if you’d deposited. I think the rate is still 4%.
So… if you’re going to owe tax, making your minimum deposits through the year is essentially an investment returning 4% per year. For it to be worth paying the penalty, you’d have to have a rate of return higher than that. But, honestly, any money manager who gives that kind of advice should be fired. If 2008 didn’t teach him the dangers of leverage, nothing will.
But I’m thinking if there’s evidence that you were knowingly breaking the law because you figured that you’d earn more than the interest would cost, then that would be one of the occasions when the IRS would seek to invoke the 100% fine. And then they’d do one of those Nelson Muntz HA-ha laughs.
And I’m in complete agreement that this money manager should be fired. He either doesn’t know what’s illegal or he doesn’t care - either way he’s dangerous to his clients and their money.