Why do I owe taxes? How to Avoid Owing Taxes to the IRS
Want to make sure your tax bill is correct and not pay more than you owe when you file your federal tax return come tax season? Want to make sure your tax bill is correct and not pay more than you owe when you file your federal tax return come tax season?
At a glance:
Common reasons for owing taxes include insufficient withholding, extra income, self-employment tax, life changes, and tax code changes.
- To lower your tax bill, you can try adjusting paycheck withholding, voluntarily withholding tax on non-wage income, planning for self-employment taxes, and recalculating taxes when life changes occur.
- If you can’t pay your tax bill immediately, set up an IRS payment plan through TaxAct when tax filing.
- The fear of owing taxes
Filing federal and state taxes can be daunting for many filers; it’s no surprise that people tend to over-withhold from their pay, fearing they might owe the IRS even with their withholdings. Most people don’t worry about owing money to creditors. Taxes seem to cause a lot of anxiety in taxpayers. However, paying thousands of dollars more in taxes to “make sure you have enough”, is not the best solution. It’s a lot to keep in your bank account for an entire year when you could use it better. Why do we do that with our taxes? There are many reasons you might owe money to the IRS at tax time. Here are six reasons why people owe tax.
1. Too little tax withheld
A common reason why people owe taxes is that they have too little tax withheld. You can give yourself a raise by adjusting your Form W-4 and ensuring that you aren’t retaining more than necessary. This should be done carefully to avoid a nasty surprise at the end of the year. You should make sure that you withhold enough tax, but not too much so that you are giving the government an interest-free loan.
2. Extra income not subject to withholding
Additional income, such as capital gains from stock sales or unemployment benefits, can increase your tax bill, as they are not subject to withholding. If you sell stock, for example, you could have more income and a higher tax bill. When calculating your tax bill, you should also consider unemployment benefits. Self-employment Tax
If your small business is profitable, you may also owe self employment tax. Self-employment taxes cover Medicare and Social Security. As a W-2 worker, these taxes are usually withheld from your pay, but as a self-employed person, you will need to pay for them yourself.
4. Difficulty in making quarterly estimated payments
If your non-wage income is significant, you will need to make quarterly estimated payments. It can be difficult to make quarterly estimated tax payments, especially if you feel you are struggling financially. If you don’t pay enough in taxes during the year, you will be expected to make it up when you file your federal income tax returns.
5. Changes to your tax return
Life events can also affect your tax bill. You no longer claim your children as dependents because they have grown up and moved out. You may have a new job that has caused a dramatic change in your income, which could push you into a lower or higher tax bracket. Even changes to the tax code can affect your tax bill. What to do if your tax bill is problematic
The cause of your tax bill will determine the solution. Here are some common ways to deal with your situation.
1. Refigure your paycheck withholding.
If you have too little withheld from your paycheck, you can create a new Form W-4. TaxAct(r), a tax calculator, can help you avoid underpaying taxes. We’ll help you print and fill out a new W-4 for your employer after you answer a few simple questions. Our software will determine the best way to file your return if you make simple changes, such as having fewer dependents. Please do not send this form to the IRS.
2. Tax withholding on other income.
For income that is not wage income, you can choose to have income taxes withheld voluntarily. If you can afford it, you might be able to withhold 10% of unemployment benefits. It may hurt now, but a large tax bill next year will be much more painful. Please do not send this form to the IRS. There is one exception — you can only have 10% withheld from unemployment payments. You can adjust your income tax withholding if you receive pensions or annuities by using Form W-4P on the IRS website. If you do not tell an annuity payer how to withhold income tax, the IRS generally requires them to withhold as if you are married and have three dependents.
3. Plan for tax on your small business.
If you are self-employed, you’ll need to pay more income tax throughout the year.
Self-employment income may be sporadic, and it can be challenging to know how much you will owe in taxes after business tax deductions — especially with no one deducting from your pay. It’s much harder to pay self-employment taxes than to have them deducted from your paycheck. Calculate your net income once a quarter and estimate how much tax you owe. Remember to include the self-employment taxes (Social Security, Medicare). Transfer the appropriate amount each time you deposit funds into your business checking accounts to the tax account. You can then consider this money as being untouchable except for federal taxes.
4. Refigure your tax liability and withholding as needed.
Ensuring you have enough tax withheld or paid in estimated taxes is challenging.
Whenever your situation changes — you get married or divorced, take on a freelance project, etc. Recalculate your income, if needed, and enter your numbers in our W-4 calculator. Set up a payment plan. Set up a payment plan.
If you can’t afford to pay off your tax bill immediately, TaxAct can help you set up an IRS payment plan that works for you when you file with us.
The bottom line
Understanding why you might owe taxes and how to address it can save you from unnecessary stress and surprises come tax season. You can take control of the tax situation by adjusting your withholdings, planning for life changes and accounting for extra income. You can keep more money in your pocket throughout the year, rather than giving an interest-free loan to the IRS. The W-4 Calculator (RefundBooster) is not intended to be used by everyone or under all circumstances. It does not constitute legal or financial advice. Your tax situation may differ.
