Put More Money in your Pocket by Adjusting Tax Withholding

There's a tax strategy that the IRS doesn't want you to know about, and all you have to do to benefit from it is fill out a simple form.

American poet James Oppenheim once said, "The foolish man seeks happiness in the distance, the wise grows it under his feet." Taking Oppenheim's advice, you may not want to wait until next spring to receive your overpaid taxes for 2009. Why not adjust your tax withholdings and enjoy that money now?

Every year, millions of U.S. taxpayers receive a check from the government because they overpaid their income taxes in the prior year. If you're one of those millions, you probably enjoy the windfall as an excuse to splurge a little. The thing is, overpaying your taxes during the tax year amounts to making an interest-free loan to the U.S. Treasury. You're actually better off not receiving that IRS payback every spring.

If you had the extra money in your pocket right now, you could be using it to pay down debt or increase your savings. Either of those activities provides added financial benefits: several months of forgone interest costs or several months of investment earnings.

DIY tax refund

To do away with the interest-free loan to the government, you simply have to adjust your tax withholding amounts. These account for the bulk of the line items that reduce your gross pay to the amount you actually receive from your employer. These amounts are calculated from the information you provide on the W-4, also called the Employee's Withholding Allowance Certificate. When you want to change your tax withholdings, all you have to do is provide your employer with a new W-4.

The W-4 can be a little intimidating, so here are a few pointers to help you:

• The form asks you to tell the IRS how many "allowances" you're claiming. A higher number of allowances means lower tax withholdings, which translates into a larger paycheck.
• The rule of thumb is to claim one allowance for yourself, one for your spouse, and one for each of your children. You're allowed to adjust your allowances to fit your tax situation.
• Every allowance in the 2009 tax year is worth $3,650 of tax-free income.
• The IRS doesn't like it when you underpay your taxes; declaring too many allowances can cause you to incur underpayment penalties.

Tax withholding resources  

If you normally receive a sizeable refund every year, you can probably add an allowance to your W-4 without issue. But, to avoid making costly mistakes, it's advisable to check a few free tax planning resources.  The official guide to withholdings is Publication 919 by the IRS; you can find it at IRS.gov. A simpler alternative is the IRS' withholding calculator, also available on the agency's website.

The choice is ultimately yours: look forward to next spring to receive your refund, or get it now. The poet in you might prefer the latter.