*The following post, well, any post on this blog, is not professional advice. I am not a tax expert, so if you choose to take any of my advice, you do so at your own risk.*

For some reason a lot of people seem to think that a huge tax refund is a great thing. Like somehow Washington is just giving them a bonus for being an amazing citizen. They couldn’t be more wrong. It’s called a refund for a reason. It was your money all along.

What? It was my money the whole time? But? Huh?

Like it or not, when you earn money in the United States you have to pay income tax. When your employer withholds it from your check they send it to Washington to fulfill your tax obligation. At the end of the year, if they withheld too much money, you get it back in the form of a tax refund. It’s essentially using the IRS as a savings account where you can’t access your money and you earn absolutely zero interest. Personally, I would rather take my money home with each paycheck. The good thing is that I can, and so can you.

The amount of federal income tax your employer deducts from your check isn’t an arbitrary number, it’s based on your instruction. When you were hired, among the litany of human resources paperwork you signed, you had to complete a W-4 form. On that form you fill in a number of “allowances,” which are theoretically the number of people in your household. If you have a higher number of allowances, less money will be withheld from your pay for taxes. The problem is, the tax code is so convoluted that those allowance numbers don’t hold up. That’s where another piece of good news comes into play. The number of allowances you put on the W-4 can be anything you want. Well, any integer from 0 to 10.

(Great, I’ll just max out my allowances and keep the money, invest in penny stocks, make a bazillion dollars in an offshore bank account, stick it to “the man” and use your new found wealth to construct a secret moon base.) Not so fast. Just because you can put a higher number of allowances on your W-4, reducing the amount of tax withheld, doesn’t mean you’re changing your obligation. You still owe the same amount of income tax, no matter what you choose to have deducted from your check, and you are still required to submit estimated tax payments as you earn income, not just in one lump on April 15. In fact, there are penalties for underpaying your taxes throughout the year.

OK, so the law says you have to submit accurate estimated tax payments. There’s no penalty for overpaying throughout the year, but ideally you want to pay in as close to exactly the amount you owe as possible. You can’t really use the W-4 worksheet as a guide, so how can you figure out the number of allowances to list on your W-4? Here’s how I did it:

First, I figured out my tax liability for the current tax year. (What? You did your taxes in advance? I don’t even like doing my taxes when they’re due!) Now stay with me. Chances are, if you’re like most people, your deductions are probably pretty close to the same every year, and your income hasn’t changed THAT much from the year before. The federal income tax tables for 2013 are similar to what they were in 2012, so if your situation is basically the same as it was last year, you can use your tax liability from 2012 as a good estimate of the amount you should be sending in for 2013.

If you want to get a more accurate number, you can do a rough tax return for 2013. I don’t have any investment income, so I am just working with the money I earn from my job, which makes this considerably easier. Since I’m a salaried employee, I started with my gross pay for the year. I then subtracted things that are excluded from federal taxable wages like retirement contributions and health insurance. That gave me my net taxable income from my employer (a number you should be familiar with from seeing your W-2 every year).

For anyone who’s done their own taxes, whether with tax software or on a piece of paper, you know that your income from your employer is not your taxable income. You can deduct things, either in an itemized way, or you can take a “standard deduction.” As a homeowner I can deduct things like property taxes, and since I unfortunately have a mortgage, I can also deduct the interest paid. If you don’t want to take the time to forecast what your deductions will be for the upcoming year, again, you can refer to what you deducted last year if you think it’s going to be about the same.

You can also claim a number of allowances, which reduces your tax burden even further. Multiply the number of allowances that apply to you by the allowance amount (For 2013 it’s $3900) to get your allowance amount.

To calculate my taxable income in my quick-and-dirty faux tax return, I took my net taxable income from work and subtracted my total deductions and total allowance amount. At the very least, that number is a couple thousand dollars less than what you earned. Cool beans, now we can calculate our estimated tax for the year. To do that we’ll need to refer to the 2013 tax table. (A tax table? Ugh, I was kind of with you up to this point, but reading a tax table is where I draw the line.) Tax tables really aren’t that bad if you know how to use them. Here’s an example for a $30,000 taxable income:

Since it’s easier for me to wrap my head around annual figures, I’m going to use Table 7 on the IRS Notice 1036. I’m filing single, so I’m going to use the left side of the table. I need to find the line where my taxable income falls. For that line the table says “$892.50 plus 15% of excess over $11,125.” What the heck does that mean? We just need to do a little bit of simple math.

$892.50 + (($30,000-$11,125)*15%)

which is

$892.50 + ($18,875*15%)

which is the same as

$892.50 + ($18,875*.15)

simplifying to

$892.50 + $2831.25

which equals

$3723.75

(OK, great. All that work to get my tax liability. How is this going to help me figure out the number to put on my W-4 so I can get back to working with my moon base architect?) Now that we know what our tax liability is going to be, we can do a bit of experimentation to see what number of allowances will get us as close to that tax liability as possible without underpaying. Again, we don’t want to underpay for two reasons: we don’t want to have to pay in on April 15, and we really don’t want to pay any penalties. The quickest way to experiment with allowances is to use a paycheck calculator. For as much as goes into calculating your federal income taxes for a year, calculating all of the amounts that go into a pay check is even more complicated. PaycheckCity has a nice calculator that you can use to simulate changes to your check.

The first thing I did with the calculator was to recreate my check as it currently stands. Once I had that set up I just started changing the number of allowances until I got a federal income tax figure that, once annualized, (take the amount per check multiplied by the number of times you get paid per year) was slightly more than my tax liability.

Theoretically you can put in a higher number of allowances that will get you an amount withheld that is *lower* than your tax liability, then use the “additional amount” figure on the W-4 to have an extra amount withheld, netting to the exact amount you owe, but while I’m careful, I also know that things happen. It’s quite possible that something about my situation will change during the year and I don’t want to be filing amended W-4s all the time. My payroll person probably doesn’t want me to either. Choosing a number of allowances that gets me a small refund instead of zero refund give me some flexibility.

Now that you’ve determined a number of allowances that will tell your employer to only withhold the actual amount you owe, go fill out that W-4 and give it to your payroll person so you can get a bigger paycheck.

tl;dr

You should adjust the amount of federal income tax withheld from your pay check by changing the number of allowances on your W-4 so you can keep your money instead of sending it to Washington to hold on to for a year. Figure out your tax liability for the year and then use a payroll calculator to try different allowance amounts to get your taxes withheld as close to the amount you owe as possible without underpaying.

I know this is a few years old, but it is exactly what I was looking for and I really appreciate the advice!