A Look Back At Individual Taxes And Withholdings
Over the last year and a half, we have all heard of the Tax Cuts and Jobs Act (TCJA), and the bevy of tax code changes that ensued. However, now that the first tax season under the TCJA has come and gone (unless you filed an extension), we can see the true impact of all of the modifications. Overall, most taxpayers did receive a tax cut, but that does not necessarily mean they received a larger refund.
Overall, the new tax code doubled the standard deduction and child tax credit, lowered tax rates and limited the alternative minimum tax exposure. Several deductions were also limited, such as state and local taxes paid and some mortgage interest. Additionally, the treasury department changed its withholding tables, which resulted in tax cuts and larger paychecks for some as well as smaller refunds.
Listen to episode 180, “tax season post-mortem,” on our award-winning podcast, unsuitable on Rea Radio with Chris Axene, a principle in our tax group.
An April Gallup poll indicated that 43 percent of Americans were unsure how the TCJA affected them. About 21 percent of taxpayers believed their federal income taxes increased, and another 21 percent thought their taxes stayed the same. Only 14 percent of respondents said their taxes decreased. Another estimate was that 80 percent of filers had a lower tax liability, 15 percent having no material change and only 5 percent of paid more in taxes for 2018.
Why the discrepancy? Well, taxpayers don’t seem to pay much attention to employer withholdings, so potential increases in pay might not be very noticeable when divided into 52 or 26 paychecks. In addition, survey respondents likely didn’t truly compare their tax burdens to the previous year – or even know how to do it. While the TCJA aimed to simplify both the federal tax filing process and withholding, it is still a very complex system, leaving many taxpayers (and even some preparers) confused.
Know Your Withholding
Did you know the amount you owe – or your refund – has very little to do with your overall tax burden? Your final tax bill is mostly derived from estimated tax payments or withholding during the year. In fact, your withholding is supposed to be equal to your tax liability. If it isn’t, it is like giving the government an interest-free loan. However, the IRS formulas are skewed to err on the high side as taxpayers would rather receive a refund than owe.
Companies compute employee withholding based on the IRS calculation tables and the number of exemptions you claim on your W-4 Form. While the new calculation tables were released for 2018 with the new rates and rules; the W-4 Form and worksheet were not. For 2019, there will be a new W-4.
Due to this discrepancy, there were higher tax bills and smaller refunds than initially expected. Especially hard hit were dual-income households with more complicated situations. If you owed a decent amount of money for 2018, you might want to bump up your withholding on your W-4 now in order to avoid another large bill next tax season. On the flip side, if you received a large refund, you also might want to reevaluate your withholding as you could be doing better things with the extra take-home money.
You should also review your withholding whenever a major life change occurs such as a new job, marriage, child or anything else that impacts your financial situation. You can use the IRS withholding calculator to help you determine the correct amount of withholding before submitting a new W-4 form to your employer.
The True Toll
How the TCJA affected you depends on a variety of factors, including your earnings, filing status, dependents and ages, and where you live. Under the new marginal tax brackets, your income is now taxed at lower rates. Other provisions could reduce or add to your overall rate.
The standard deduction amount for last year doubled to $12,000 for singles and $24,000 for married filing jointly, but personal exemptions are no longer available. So while the expanded child credit may offset the loss of exemptions for some, the numbers might not be as expected.
For high earners, several tax deductions have changed such as the itemized deductions for state and local taxes, which is now limited to $10,000 ($5,000 for married, filing separately). This caused tax increases for those in high-tax states. On the other hand, the overall limit on itemized deductions that applied to higher income was repealed, and fewer taxpayers are now subject to the alternative minimum tax.
Consulting with a tax professional to explain the relevant changes and review your pre- and post-TCJA returns is one of the best ways to identify any changes that affected your bottom line. Items such as allowed deductions, taxable income, and total tax liability are things to watch. A CPA can also recommend some strategies to help reduce your tax liability for next year. Give us a call, we are happy to sit down and discuss your tax situation.
By Cindy Kula, CPA/PFS, CFP® (Cleveland office)