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New tax break could be future tax burden
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| By: Anita Zimmerman |
April 01, 2009 |
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The Making Work Pay tax credit could cause future problems for inattentive taxpayers.
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Congress passed the credit as part of the American Recovery and Reinvestment Act of 2009, popularly known as the stimulus package. About 95 percent of workers will keep more money in each paycheck, but some will end up paying it back when they file their 2009 and 2010 taxes.
Suzanne Perry is a New Auburn accountant who offers mobile tax preparation services. She's concerned that taxpayers won't know what hit them when the next tax season rolls around, so she's trying to educate workers now.
"In 2008, when the taxpayers received the lump sum check, they wisely used it to pay off debt instead of doing what Congress wanted and just go out and frivolously spend," explains Perry. "To prevent that in 2009, the Making Work Pay credit withholds less federal taxes from the taxpayer's paychecks, in essence making the credit spread throughout the year on each paycheck."
The credit is the lesser of 6.2 percent of the taxpayer's earned income or $400 ($800 for a joint return). Unfortunately, Perry adds, the credit is taxable.
"This is accomplished by taxing the earnings (Box 1 on the W-2) as usual but having less withholding (Box 2) to offset the tax. Basically, this credit is a reduction of your 2009 refund."
To prevent big tax bills in 2010, Perry says workers need to adjust their withholdings now. First, they should compare this year's federal withholdings with next year's figures.
"Multiply that amount by the number of pay periods you will have remaining in this year. If that amount is greater than your 2008 refund (after considering any changes due to the Child Tax Credit, number of dependents you can claim and Earned Income Credit), you will need to change your withholding."
Having more money taken out of each paycheck is the quickest solution, Perry says. "The easiest way would be to stay at the same withholding status/exemptions and have the necessary amount added to the deduction. So let's say you were single and claimed no exemptions but were going to fall short by $25 every two weeks; fill out a new W-4 with S-0 and an additional $25 withheld."
Perry says saving the money is a second option. "If a taxpayer didn't want to change his/her withholding but was disciplined enough, he/she could put the difference in a savings account until taxes were filed in 2010," she adds.
"This would defeat the Congress plan for spending and may result in interest added to any balance due, but would help pay for the additional tax if it comes due."
There are a few exceptions.
"If the taxpayer was eligible for Social Security, railroad retirement, veterans compensation or pension or Supplemental Security Income before Feb. 17, 2009, they should receive an Economic Recovery Payment in the amount of $250." That money will be deducted from the credit amount if they're still working, Perry says.
Different guidelines apply for taxpayers with higher incomes, she adds. "The Making Work Pay Credit is phased out at a rate of 2 percent of the individual's modified adjusted gross income above $75,000 ($150,000 joint return)."
Perry suggests farmers, contractors, business owners and other self-employed workers should wait to take the credit. "Self-employed individuals may reduce their estimated taxes by $100-$200 per quarter, but the safer way to go is to take the credit on the 2009 tax return."
Despite the warnings, Perry fears a lot of workers won't act until it's too late. "Generally, I believe there will be many unhappy people come tax time 2010."
The Internal Revenue Service's new income withholding guidelines are online at www.irs.gov/pub/irs-pdf/n1036.pdf.
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©The Chetek Alert 2009
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