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Suppose that Bob realizes in November that he has severely underwithheld taxes and would have a large penalty due when he files. Since he works at a salary-paying job, he elects to increase his additional withholdings to include his entire paycheck.

By the end of the year, his withholdings will then equal his total federal tax, and ostensibly he would have no penalty due when he files taxes.

In this scenario, the IRS would receive their money much later than if Bob had made four equal estimated tax payments. What discourages people from using this strategy on purpose?

Chris W. Rea
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ahaas
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2 Answers2

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While that is an extreme example, it is permissible. The IRS considers all money withheld from paychecks as meeting the requirements for timeliness, as long as in the end you make the safe harbors.

People change jobs during the year, they have kids during the year, they get married during the year. So your tax situation may change during the year.

A number of years back I sold a rental property and I knew I was going to owe Federal taxes, so I made sure that the last few checks had additional funds to make sure that I meet the 110% safe harbor. The additional amount wasn't as extreme as your example, but it did increase my withhold by $500 a paycheck.

There are limits to this system. The number of allowances don't have to equal the number of kids, or the number of people in the household or any other rule-of-thumb. But if you try and set the number a huge number to drive your withholding to zero, the IRS may take notice:

Question
If an employee claims more than 10 allowances on their Form W-4, does the employer have to report this to the IRS?

Answer

No, this requirement has been eliminated. However, Forms W-4, Employee's Withholding Allowance Certificate, are still subject to review. Employers may be directed (in a written notice or in future published guidance) to send certain Forms W-4 to the IRS. The IRS will also continue to review employee withholding compliance. The IRS may send you a letter (commonly called a lock-in-letter) specifying the withholding rate and allowances to use to calculate the amount of tax to withhold from wages paid to a specific employee.

Additional Information
Publication 15 (Circular E), Employer's Tax Guide
Tax Topic 753 - Form W-4 - Employee's Withholding Allowance Certificate

mhoran_psprep
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If you intentionally claim more withholding allowances on your W-4 than you are entitled to, you would be guilty of perjury. I think that is enough to discourage most people, even if the likelihood of being caught is low.

If you mistakenly put the wrong number or something changes in your tax situation late in the year, this is a legitimate way to avoid a penalty.

prl
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