Working for more than one employer, such as having a side job, can change your tax return more than you might expect. Filling out a W4 and determining your withholdings may not be as easy as you thought.
When you work as an employee (vs. contract), your check has taxes taken out of it. It is a very common mistake to think that because there are taxes taken out, that these few extra thousand dollars will go a long way to helping me and my family, and not change my tax return too much. Often this is not the case.
The way that payroll / HR does withholding is based on the Form W4 that you filled out. The challenge with the W4 on a side job, is that it is not a straight line for your withholding but a sliding scale. If you make little, the rate of withholding is scaled down to being very little – and lots of income the opposite. You may have intended to fill out the paperwork for payroll to take out the ‘most’ taxes, only to find the $4,000.00 of income for the year only had $200.00 withheld for the whole year, which is only 5% What if you are in a 12% tax bracket? Now you are 7%, or $280.00, short on your withholding (or higher if your tax bracket is higher). This will impact your tax return result. This was not actually a mistake by payroll or HR, but simply how the withholding ‘math’ works.
To correct this, the first thing you need to do is arm yourself with knowledge of your tax return. Simply knowing which tax bracket, you are in, will help tremendously. However, this isn’t the simple solution it appears to be. Please look out for a separate blog or video from us for more information about tax brackets. For our purposes here, we will simply say that your tax bracket will determine the tax rate of all additional income (not total income). Your tax bracket is also determined after deductions – thus it is not as simple as just saying I make X amount, thus I am in Y tax bracket. Please ask your tax preparer what tax bracket you are in.
Go ahead and fill out your W4 as best you can to start, but plan to change it after your first check or two. What you want to do, is look at the paystub and find 2 lines, your federal withholding (not total taxes) and your gross pay. You divide the little number (withholding) into the big number (gross pay) like this 100 ÷ 1000. That will give you a decimal number, which you will interpret as a percentage. 1.00 is 100%, and 0.10 is 10% – just move the decimal to the right twice. To give you a specific paycheck example, let’s use a $400.00 check and $20.00 in federal withholding (again, not adding the social security and Medicare taxes). 20 ÷ 400 = .05 and then moving the decimal twice is 5%. If you are in a 12% tax bracket, and you only withhold 5% – that is going to make you lose some from your refund or owe more when tax time comes.
Now, you fill out a new W4 but add something else. Look at line 6 – it allows you to place an additional amount per check. This number is not on the sliding scale, but a number you can control. Since your check is not withholding 12%, you need to know what the correct amount is, so you can add the difference on the W4. So 400 x 0.12 (which is 12%) = 48, meaning your check should be withholding at least $48. $20 is already coming out, so on line 6 you need to write in $28 – so that each check an additional $28 is withheld so you get to the right amount per check! [Disclaimer – if you have any pre-tax deductions from your pay, this method will have you withholding a little bit more than needed. However too much withholding is always nicer to deal with on taxes than not enough!]
In summary, talk to your tax professional to get to know and understand your tax bracket. Check your withholding on additional income to make sure it is withholding enough, because too often it is not. If this is the case, fill out a new W4 the same way you did before, but this time add an additional amount on line 6, so that each check is withholding the right amount. You can also use this method if your primary check is not withholding enough and you end up owing money to the IRS each year!
Senior Tax Professional