Better to Give than Receive at Tax Time

While getting back a tax refund can be exciting, it’s not always bad to owe a little money when you file your taxes. If you are due a big refund, that means that you’ve let the federal government hang on to your money all year long. And depending on your financial situation, that money could have been used to pay off a credit card balance, for investments and retirement savings, or even for those little luxuries you’ve been waiting all year for.

Tax payments are due by December 31st of the tax year and any tax you owe in excess of $1000 is subject to an underpayment penalty. But if you owe less than $1000 when you file your federal tax return, then you did well. By owing at tax time, you had use of that money all last year and won’t be penalized for tax underpayment or late payment as long as the full amount due is paid by the April 15th tax deadline. In essence, you received an interest-free loan from Uncle Sam.

While it’s too late to do anything about the refund or tax bill for last tax year, now is a good time to make adjustments to your tax withholding for the current tax year. Many life changes - such as the number of your dependants, your filing status, or your itemized deductions - are likely to affect your tax bill significantly. Consider adjusting the amount of your tax withholding or estimated quarterly payments to reflect those changes for next tax season.

The key to making “Uncle Sam’s interest-free loan” work is good financial management and saving a little each month to pay your bill at tax time. But, if you are living paycheck-to-paycheck and doubt your ability to save up for a tax bill, then it may be safer to stick with a tax withholding that gives you a small refund each year.

Whether you choose to give or receive at tax time, make it a habit to study and understand your tax return and adjust your withholding or prepayments accordingly.