Filing 1040EZ may be costing you money.

January 29, 2015

I recently had somebody come to me for help with their taxes. This person came to me because he knew he’d be making decisions in the next few years that could have significant tax implications.

In the previous few years, he’d had a very simple tax situation, so he’d chosen to use the Form 1040-EZ…a very simple tax form intended for people with very simple situations. Unfortunately, while this form is simple, it can prove quite costly.

While reviewing his prior returns, I noticed he’d missed a very simple credit that would have saved him a couple hundred dollars each year. (Fortunately I was able to amend his returns and get this money back for him.) Why did he miss this credit? Simple. The Form 1040-EZ doesn’t mention this credit, or many other credits and deductions.

The problem with 1040-EZ is it only mentions the very common items. Many other items are not terribly unusual — and most people will have at least one of them — but they aren’t mentioned on Form 1040-EZ or its instructions. As a result, people who have simple situations might completely miss an opportunity to save on their taxes.

Of course, most people want to keep their lives as simple as possible, so it’s easy to understand the appeal of filing with the simplest form possible. But think about the payoff. By spending an hour or two skimming the instructions of Form 1040, there’s a good chance you’ll find a deduction or credit that will save you hundreds, if not thousands, of dollars. That’s a pretty good return on an investment of a couple hours.

Don’t want to do all that reading? Or just afraid you won’t understand and wind up missing something anyway? Then shell out a little cash for a basic version of reputable tax software like TurboTax that will walk you through a whole slew of questions that should turn up any deduction or credit that you might have missed. Still sounds like too much trouble? Then spend a little more cash to have a professional at least review your return. If you do the legwork of preparing your return initially, many professionals will review it for a fairly nominal fee just to make sure you’re not missing any common credits or deductions like the one that was missed by the person who contacted me.

Everybody knows the tax code is riddled with loopholes and special exceptions. Don’t make the mistake of filing Form 1040-EZ and assuming there’s no benefits available to you. Spend a little time or a little money, and chances are your investment will pay off many times over with a significant tax savings.


Why did my employer give me a 1099 instead of a W-2?

January 26, 2015

“Why did my employer give me a 1099?” That’s a fairly common question heard around this time of year as people who are used to getting W-2’s from their employer actually receive a Form 1099-MISC instead. Well, as I’m about to explain, the difference is much more than just some minor paperwork.

First, some background. It can be tempting for new businesses to simply want to hire “contractors” instead of “employees” to save all the complexities that come with employees. So, rather than hiring a payroll service and dealing with tax withholding and insurance and a lot of other really fun tasks (well, ok, “complexities”) that go with hiring employees, a company will just call their employees “contractors” and give them a simple Form 1099-MISC at the end of the year. But in the eyes of the IRS (and state tax authorities), it’s not simply a matter of the business choosing a label that’s convenient and issuing the corresponding form. And there’s serious penalties for employers who are considered to have deliberately misclassified employees.

On the other end of the equation, it’s important for employees to know their status and the advantages/disadvantages of each. On numerous occasions, I’ve seen the rather unscrupulous tactic of employers announcing to their employees that they are now independent contractors and selling it as though it’s a clear benefit to the employees. This is usually not the case.

As an employee, it may be tempting to just take cash payments with no taxes taken out. But what the employer doesn’t take out for you, you’ll simply wind up paying later, plus additional taxes. And YES, you do have to report and pay taxes on all of your income, even if you’re paid in cash.

Here’s the downsides to being an independent contractor:

1) You’re subject to Self-employment tax. This tax, generally about 15%, is assessed on your earnings in place of the Social Security and Medicare taxes that normally come out of paychecks. As a self-employed person, this will be twice as high as what’s withheld from your paycheck because your employer is required to pay half the amount. When you’re self-employed, you pay both halves.  So all things being equal, being an independent contractor will result in you paying more taxes overall, not less.

2) You’re not covered by unemployment insurance. As an independent contractor, it’s not only easier for your employer to let you go, but you also can’t use your earning from self-employment to qualify for unemployment benefits.

3) You’re not covered by workman’s compensation. If you get injured while working as an independent contractor, don’t expect to have your medical bills covered or receive any payments while you’re unable to work. Unless you pay insurance to provide this for yourself, you’re just out of luck if you get hurt on the job.

Of course, there are a few advantages to being an independent contractor. From a tax perspective, the one clear advantage is the fact you can deduct expenses directly against your income. As an employee, deducting work-related expenses is complicated, only available to people who itemize their deductions, and you’re generally not able to get the full value of expenses as a deduction. But as an independent contractor, you simply subtract all job-related expenses directly from income. And these expenses even reduce your self-employment tax; unlike as an employee where work-related expenses never reduce your Social Security/Medicare taxes. As an independent contractor, you’re also usually eligible to deduct the premiums you pay for health insurance, while employees who have to obtain their own insurance generally aren’t able to do this.

The take-away from all this should be: whether you’re an employee or employer, be careful about the “independent contractor” classification when workers might really be employees. When in doubt, talk to a competent accountant, lawyer, or the IRS. And as an employee, be aware that being paid in cash as a “contractor” is usually not all it’s cracked up to be.


Here’s some additional info from the IRS…

As a small business owner you may hire people as independent contractors or as employees. There are rules that will help you determine how to classify the people you hire. This will affect how much you pay in taxes, whether you need to withhold from your workers paychecks and what tax documents you need to file.

Here are seven things every business owner should know about hiring people as independent contractors versus hiring them as employees.

1. The IRS uses three characteristics to determine the relationship between businesses and workers:

  • Behavioral Control covers facts that show whether the business has a right to direct or control how the work is done through instructions, training or other means.
  • Financial Control covers facts that show whether the business has a right to direct or control the financial and business aspects of the worker’s job.
  • Type of Relationship factor relates to how the workers and the business owner perceive their relationship.

2. If you have the right to control or direct not only what is to be done, but also how it is to be done, then your workers are most likely employees.

3. If you can direct or control only the result of the work done — and not the means and methods of accomplishing the result — then your workers are probably independent contractors.

4. Employers who misclassify workers as independent contractors can end up with substantial tax bills. Additionally, they can face penalties for failing to pay employment taxes and for failing to file required tax forms.

5. Workers can avoid higher tax bills and lost benefits if they know their proper status.

6. Both employers and workers can ask the IRS to make a determination on whether a specific individual is an independent contractor or an employee by filing a Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding, with the IRS.

7. You can learn more about the critical determination of a worker’s status as an Independent Contractor or Employee at by selecting the Small Business link.  Additional resources include IRS Publication 15-A, Employer’s Supplemental Tax Guide, Publication 1779, Independent Contractor or Employee, and Publication 1976, Do You Qualify for Relief under Section 530? These publications and Form SS-8 are available on the IRS website or by calling the IRS at 800-829-3676 (800-TAX-FORM).

  • Publication 15-A, Employer’s Supplemental Tax Guide (PDF)
  • Publication 1779, Independent Contractor or Employee (PDF)
  • Publication 1976, Do You Qualify for Relief under Section 530? (PDF)
  • Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding (PDF)

Getting (tax) credit where credit is due

January 22, 2015

This is the last installment in a four-part series looking at the basic structure of a tax return. In the first article, I explained that the standard US individual tax return can basically be divided into four parts: Filing Status (and Exemptions), Income, Deductions and Adjustments, and Credits and Payments. I also explained that the results from these four parts of the return are used in the following equation that ultimately determines your tax liability or refund at the end of the year:

Total income

– Adjustment and Deductions


Taxable Income

x Effective Tax Rate (determined by your Filing Status)


Income Tax

–  Tax Credits and Payments


Your Tax Refund/Balance Due

The first three articles covered everything up to your Income Tax. Now we cover Credits and Payments, which is the section that explains why most people actually get money back when they file a tax return each year.

One important thing I always like to point out is that, contrary to popular opinion, getting a big refund is really not a good thing. Basically, when you get a refund, that usually means you’ve given the government money during the year–typically through paycheck withholding–and now the government is just giving you back the money they’ve been “hanging onto” for you…without interest. My goal with my own return and most of my clients is to actually OWE a little bit of money at the end of the year. You don’t want to owe too much money, because you can get penalized, but owing a little bit of money at the end of the year just means you haven’t been “loaning” money to the government interest-free. (If you want to loan money to the government, you can always buy bonds and get paid interest!)

So this week I want to explain how those payments and credits work to determine your tax liability or refund. Payments are easy to understand. Basically, most people just pre-pay their tax bill throughout the year in the form of withholding from paychecks. Sometimes pensions and certain other payments have money withheld as well. This withholding isn’t the exact tax on a particular payment, it’s just an estimate. At the end of the year, you add up all of those payments, compare it to your actual Income Tax (determined by the formula above), and if you paid too much you get a refund.

It’s kind of like when your credit card is pre-authorized at a gas station. A certain amount of money (I think it’s typically $75) gets set aside in your account as soon as you swipe your credit card. Once you pump your gas, the money that was needed for gas gets transferred out of your account to the gas station. But the money that wasn’t used gets put right back in your account. With a gas purchase, your account is settled as soon as you’re done pumping gas. Tax payments are sort of like a pre-authorization of funds, except it takes a little over a year to settle your account.

Credits work a lot like payments, but with a key difference. Most credits are “non-refundable” credits. A non-refundable credit is a credit that can reduce your tax liability to $0, but not below $0. So if you didn’t have any withholding or other payments during the year, but you had a bunch of non-refundable credits, you could never have a refund. If your tax bill started at $2000, and you had $2500 in nonrefundable credits, you wouldn’t get back a refund for the $500…you would simply reduce your tax to $0. The remaining credit doesn’t do anything for you–although some credits do “carry forward” to the next tax year. So if the $2500 worth of credits all allowed a carry forward, then you would have a $500 credit just waiting to be used in the next tax year. Your credits are always applied before payments. So credits can take your tax liability all the way down to $0, and then if you also made payments, those will be completely refunded. But you won’t ever get back more in a refund than you made in payments…unless…

…you have “refundable” credits. There are a few credits that are considered refundable. The most popular refundable credits are the Child Tax Credit, the Earned Income Credit, and the American Opportunity Credit (for education expenses). There are a few others, but they’re much less common. Refundable credits work more like payments. If you have a tax liability of $2000, and $2500 in refundable credits, you’ll get $500 back from the government…even if you didn’t make any payments at all during the year. People are sometimes confused to find they’re getting a refund that’s more than their entire withholding for the year. When this happens, it’s because they qualify for a refundable credit.

Fortunately, the government applies nonrefundable credits before refundable credits. That means nonrefundable credits will reduce your tax liability until they’re all used up, or you reach $0, whichever comes first. Then the refundable credits are applied, which can take you into “negative tax” territory. I.e. you’re getting a “refund” of money you never actually paid in through withholding.

So this concludes a basic overview of how an income tax return works. You start by determining your Filing Status and whether you can claim any dependents. Then you report all of your income. Next you subtract any adjustments and deductions that you’re allowed to subtract, in order to get to your Taxable Income. Based on your Filing Status, you look up the Income Tax for your level of taxable income in one of the IRS tax tables. Finally, you subtract any credits available to you to get your tax liability as low as possible. If you’re fortunate enough to qualify for refundable credits, your tax liability can actually go negative, meaning the government is actually giving you money. Finally you subtract your payments from your tax liability to determine your refund or remaining balance due at the end of the year.

As you’re compiling all the data to keep your accountant or tax software happy this year, I hope this helps you understand how all that information is being used.

Adjustments and Deductions…how to reduce your taxable income

January 19, 2015

The last couple weeks I’ve been covering the basics of the US Federal Income Tax Return. I’ve broken the return into four basic parts: Filing Status and Dependents, Income, Deductions from Income, and Credits and Payments. The first post provided an introduction and an overview of choosing the right filing status. Last week, I covered how to know what the IRS considers income that must be reported. And now we’ll turn to deductions from income…how to get from your gross income to the (hopefully much lower) taxable income.

The main thing to know about reducing your taxable income is that these reductions typically fall in the category of either Adjustments or Deductions. (Unfortunately, the term Deduction is frequently used to generically refer to items that reduce taxable income, but I’m going to use Deduction here to refer to a specific type of item that reduces taxable income.) Starting from your gross income, you’ll subtract Adjustments, Deductions, and Exemptions to get to your Taxable Income. Exemptions are a fixed amount ($3950 for 2014) that you’re able to deduct for each dependent you claim, as well as for yourself and your spouse (if married, and assuming nobody claims you or your spouse as a dependent). Since exemptions are a straightforward matter of multiplying the annual personal exemption amount by the number of eligible people on your tax return, we’ll just look at Adjustments and Deductions.

Adjustments. These are often referred to by accountants as “above the line” reductions. In this case, “the line” refers to your AGI–aka Line 37 on recent year 1040 Forms. Adjustments reduce your taxable income, much like deductions, but unlike deductions they are not subject to any limitations based on percentage of AGI. Plus you can still take the standard deduction and receive the benefit from adjustments. Because adjustments reduce your AGI, they have some additional benefits as well.

Your AGI determines a number of things. Most importantly, your AGI determines your eligibility for most tax credits and deductions. (And, paradoxically, your AGI can determine your eligibility for adjustments and income reductions–such as Social Security not being treated as taxable–even though these items affect your AGI. It sounds circular, but it’s accomplished through the use of Modified AGI which would require a separate article.) As a result, adjustments can not only reduce your taxable income, but increase other credits and deductions as well.

One relatively common example I’ve seen is reducing your AGI to benefit from the Saver’s Credit, a credit that can be worth 10%, 20%, or even 50% of any amount you contribute to qualified retirement accounts. This credit can be claimed by individuals with AGI below $30,000 and married filing joint couples with AGI below $60,000, so a fairly large number of taxpayers potentially qualify. If you’re just above one of the thresholds for this credit, a reduction in your AGI by, for example, taking an adjustment for qualified tuition and fees might result in a few hundred dollars in savings as a result of the Saver’s Credit now that your AGI is below the threshold–plus the savings from reducing your taxable income.

Adjustments are less restricted than deductions, and they can have added benefits by reducing your AGI. (In fact, in rare cases, I’ve seen adjustments result in tax savings larger than the actual amount of adjustment thanks to this domino effect.) Generally speaking, adjustments are more valuable than deductions.

Deductions. While people most often ask “What can I deduct?” when looking for ways to reduce their tax bill, deductions are actually the least valuable form of tax reduction.

Deductions offer no tax savings at all in many situations. Nearly everybody gets a “standard deduction” they can use to reduce their taxable income automatically (in 2014, this amount was $6200 for Single filers, $12,400 if Married Filing Joint).  If your total deductions are less than the “standard” amount, you receive no benefit at all from them because you simply take the standard deduction (with a few rare and minor exceptions). Only when the total of your deductions exceeds the standard deduction do you benefit from “itemizing” your individual deductions and taking that value instead of the standard amount. For most people who don’t have a mortgage, this means they don’t benefit from these deductions–unless they have a lot of other deductions. Furthermore, many deductions are only allowed if they exceed a certain percent of your Adjusted Gross Income (AGI). For medical expenses, only expenses that exceed 10% of your AGI can be deducted. For work-related expenses, investment expenses, and most miscellaneous deductions, only expenses that exceed 2% of your AGI can be deducted. (Expenses in the 2% category can be added together before the 2% reduction, they don’t have to individually exceed 2% of AGI.)

As a result, many people who think they’re going to benefit from a substantial deduction receive no benefit at all, or the benefit is significantly less than they expected.

Other reductions. In addition to Deductions and Adjustments, there are also exemptions (mentioned earlier) and exclusions. Exclusions usually don’t appear on your tax return at all because they are items that aren’t reportable as income in the first place. Employer-provided health insurance is the most common example. The value of health insurance received from an employer doesn’t even show up in Box 1 of the W2 reporting taxable wages. The only exclusion that is sometimes encountered on the tax form is the Foreign Earned Income Exclusion. Because exclusions are rarely seen as income, and the instance where an exclusion does show up on the tax form is so rare, I won’t go into any more detail on exclusions.

So now that we’ve looked at Filing Status, Income, and Reductions from Income, we have enough information to calculate an income tax liability. The income minus any reductions is our Taxable Income. And the Filing Status determines how much tax you pay on that Taxable Income. This leaves just one more area to cover in determining how much you pay, or get back, when you file your taxes. Next week we’ll cover this last area — credits and payments.

Is it income?

January 15, 2015

Last week we started a four-part series covering the basics of the standard personal income tax return by taking a look at how to choose the right filing status. This time we’ll take a look at the question of what is income. While this might seem like an obvious question, it doesn’t take much digging to find out the answers aren’t always so clear cut.

Congress takes a pretty broad view of what is considered taxable income. Generally, any money, property, or services you receive is considered income, unless the law specifically excludes an item. Obviously this includes the paycheck you receive for working or interest earned on a savings account. It also includes wages paid in cash (aka “under the table”), income received through bartering (minus your basis in any property you gave up), and tips received while working. (Though see this article explaining why reporting tips might make you better off, aside from the simple legal angle.) Even money or property that you simply find is considered income–yet another reason not to bother bending over to pick up that penny on the ground.

However, Congress has carved out several exceptions. For instance, gifts and inheritances are not considered income, so don’t worry about adding your Christmas gifts to your tax return. However, a gift is only a gift if it’s given with the expectation of nothing in return. For this reason, employer “gifts” to employees are basically always considered taxable income because there’s an implicit expectation that the reason an employer gives gifts to employees is as compensation for the services the employee provides.

Also, there are special rules allowing certain types of income to be excluded. Certain fringe benefits an employer provides don’t have to be counted as income. By far the biggest item in this category is employer-provided health insurance. But this can also include foreign income if certain conditions are met, most government assistance payments (e.g. food stamps, welfare, etc.), many Social Security payments, scholarships that are used for qualified education expenses, and so forth. One of the best clues as to whether a payment is taxable is whether or not it’s reported on a Form 1099. There are various “flavors” of 1099’s, but if you receive a large payment during the year, and you don’t receive a 1099 (or W2) reporting the payment, that’s a good indicator the payment is not taxable. You should still do your homework if you’re not sure though!

Also, there are situations where taxpayers have income that doesn’t immediately seem like it should be income. The most common example of this, particularly in recent years, is cancellation of debt income.

If you had a home foreclosed on, a car repossessed, or a credit card debt cancelled, you probably received a 1099-C or a 1099-A. You have “cancellation of debt” income. This occurs because when you took out the original loan, you received money that was not considered income. It wasn’t considered income because you had an obligation to pay the money back…so the money you received was exactly offset by the obligation to repay that money. However, once the debt was cancelled, the situation is different. Now that you’re no longer obligated to repay the debt, the money you received earlier but are no longer required to repay is considered income. This can seem harsh to people who’ve had a home foreclosed or lost a vehicle. However, if there weren’t laws like this, people could receive tax-free income by taking out loans and defaulting on them. And fortunately, there are multiple circumstances that allow people who’ve had debts cancelled to avoid having to treat the cancelled debt as income. (The debt cancellation possibilities require a very lengthy article of their own.)

So when it comes to reporting your income, unfortunately nearly everything you would possibly think to include (and even some things you wouldn’t), has to be included in your gross income. Be aware of the exceptions though, so you don’t report more income than you have to. And in the next article we’ll look at ways to deduct items from your gross income to arrive at your (hopefully much lower) taxable income.

Choosing the right Filing Status

January 12, 2015

A recent IRS Tax Tip (below) gave me the idea of doing a four-part article since we’re now starting the filing season for Tax Year 2014. The IRS Tip covers some basic facts about choosing a Filing Status on your tax return. This got me thinking that a big-picture overview of the tax return may be helpful to people filing a return for the first time, or who’ve filed returns before but are still completely mystified about the process.

From the big-picture perspective, the income tax form can basically be divided into 4 parts: your Filing Status and Exemptions, your Income, your Deductions and other Adjustments to income, and your Credits. Your Filing Status determines your tax brackets, or what rate of tax you’ll pay on your income. Your Filing Status can also determine whether or not you’re eligible for certain credits and deductions. Your Income is fairly straight-forward, it’s all the income you received during the year, and it’s the starting point for determining how much money you’ll be taxed on. But there are some nuances and sources of confusion there.  (Are gifts income? What about selling your old car?) I’ll cover the income basics in the second article.

In the third article, I’ll cover Deductions and Adjustments to income.  These are items that can reduce how much of your income is considered taxable. After subtracting the Deductions and Adjustments from your Income, you’ll have a taxable income that is used to calculate your tax liability. And finally, the fourth article will cover Credits, which are direct reductions of the tax liability determined in the previous step. Hopefully, these four articles will help you get a general sense of the process of determining your tax liability, and maybe give you some ideas for how you can reduce it.

You can think of the process as a mathematical formula:

Total income

– Adjustment and Deductions


Taxable Income

x Effective Tax Rate (determined by your Filing Status)


Income Tax

–  Tax Credits and Payments


Your Tax Refund/Balance Due

This formula generalizes and leaves out some details. But if you’re mathematically-minded, it’s a reasonable approximation of the process.

The first part of the tax form is where you declare your Filing Status, which determines your tax rate. In general, the Filing Statuses go from better to worse in the following order: Married Filing Joint, Qualifying Widower, Head of Household, Single, then Married Filing Separate. There are some exceptions to this. For example, a married couple where one spouse has high medical expenses and the other spouse has high income might be better off filing Married Filing Separate than filing Jointly. And some couples with two high earners will find they’re better off staying legally Single and filing their own returns than getting married. But these are the exceptions to the rule.

It’s not as simple as just choosing a status, of course. In general (there’s that term again), your legal marital status on the last day of the year will determine whether you must file as Married (either Jointly or Separately). However, if you’re legally married to a same-sex partner, as many of my clients are acutely aware, the IRS is not allowed to recognize this marriage under federal law, regardless of the laws in the state where you live. On the other hand, if your legal spouse died during the year, you’re generally (that dreaded word again) still considered married on the last day of the year, and may file a joint return.

If you’re not recognized as married on the last day of the year, you must choose between Qualifying Widow(er), Head of Household, or Single. Qualifying Widow(er) is explained in fact #8 below. The narrow criteria make it the least common filing status, in my experience, but it can be very valuable for individuals who qualify.

Many people try for Head of Household status because it offers better tax rates than Single status, and the criteria are a little more broad. I won’t go into all the detail, but generally (if this were a drinking game based on “general”, you’d be tipsy by now) this requires you to support a dependent child living with you in a home in which you pay more than half the household costs. You might also be eligible if you have a parent who is dependent on you for financial support. The relationships that qualify you for Head of Household status are narrowly defined, so unfortunately having a deadbeat roommate, or a pet, will not allow you to qualify as Head of Household (unless the deadbeat roommate also happens to be a younger sibling). But if you’re not in a recognized marriage at the end of the year, and you don’t meet the criteria for either Qualifying Widow(er) or Head of Household, that leaves you with Single filing status. While not the most advantageous filing status, you can at least know that you have company…it’s the most popular filing status.


More from the IRS…

Eight Facts to Help Determine Your Correct Filing Status

Determining your filing status is one of the first steps to filing your federal income tax return. There are five filing statuses: Single, Married Filing Jointly, Married Filing Separately, Head of Household and Qualifying Widow(er) with Dependent Child. Your filing status is used to determine your filing requirements, standard deduction, eligibility for certain credits and deductions, and your correct tax.

Some people may qualify for more than one filing status. Here are eight facts about filing status that the IRS wants you to know so you can choose the best option for your situation.

1. Your marital status on the last day of the year determines your marital status for the entire year.

2. If more than one filing status applies to you, choose the one that gives you the lowest tax obligation.

3. Single filing status generally applies to anyone who is unmarried, divorced or legally separated according to state law.

4. A married couple may file a joint return together. The couple’s filing status would be Married Filing Jointly.

5. If your spouse died during the year and you did not remarry during 2011, usually you may still file a joint return with that spouse for the year of death.

6. A married couple may elect to file their returns separately. Each person’s filing status would generally be Married Filing Separately.

7. Head of Household generally applies to taxpayers who are unmarried. You must also have paid more than half the cost of maintaining a home for you and a qualifying person to qualify for this filing status.

8. You may be able to choose Qualifying Widow(er) with Dependent Child as your filing status if your spouse died during 2012 or 2013, you have a dependent child, have not remarried and you meet certain other conditions.

There’s much more information about determining your filing status in IRS Publication 501, Exemptions, Standard Deduction, and Filing Information. Publication 501 is available at or by calling 800-TAX-FORM (800-829-3676). You can also use the Interactive Tax Assistant on the IRS website to determine your filing status. The ITA tool is a tax law resource on the IRS website that takes you through a series of questions and provides you with responses to tax law questions.

Eager to get that big tax refund? Don’t be.

January 8, 2015

The new year typically brings a barrage of advertisements from tax chains claiming to get you your tax refund FAST, FAST, FAST! One week, next day, and even same-day refunds are promised…for a price. If you typically get a big tax refund, or are expecting one this year, it might be tempting to rush out TODAY and get your refund. But it’s usually a bad idea for a couple reasons.

  • Same-day and next day refund loans always charge hefty fees…in most cases well over 100% when looked at on an annual basis. E-filing your return and having your refund direct deposited typically results in receiving your refund in under two weeks. Unless you absolutely can’t live without your refund for a couple weeks, and can’t find any other way to access money, paying to get your refund a little sooner is usually a terrible deal.
  • Tax returns filed in January are far more likely to contain errors. Tax law is frequently not finalized until the very end of the tax year…sometimes even later. This leaves tax software companies scrambling to make sure everything works. Virtually every year there are several errors in popular tax programs that affect large numbers of people. This means you may have to deal with the hassle of amending later…or worse, never find out you missed a deduction or credit that could have saved you a lot of money.

You’re generally much better off waiting until at least the beginning of February to file your return, unless your return is very simple. But your best move is to make sure you do NOT get a big refund each year. That’s right, a big refund is something to avoid!

When you receive a large refund, that means you’ve given the government too much money during the previous year. In essence, you’ve given the government a loan, and you’re going to get the money back a year later without interest.

Instead of rushing out to get your refund as fast as possible, what you should actually do is plan ahead and adjust your withholding (“withholding” is what you pay to the government out of each paycheck). If you withhold the right amount through the year, you’ll make more money all year long. Rather than waiting to get a refund sometime after the end of the year, you’ll keep more of your hard-earned money when you earn it. Then you can have the extra money direct-deposited in a savings account throughout the year, and you’ll have access to it when you need it…instead of having to wait to file a return and pay fat fees for a refund loan.

If you’re somewhat savvy about taxes and your finances, you can use online tools to find out how to complete your W4 with your employer so you have the right amount withheld. One of the best tools is actually the Withholding Calculator available at the IRS website. Of course, if you’re not a numbers person, or you just have an unusually complex situation, you can always enlist the help of a good preparer. If your current tax preparer doesn’t offer to provide this service as part of preparing your tax return, then you should ask for it…or maybe shop around.