Is there a penalty for having TOO much money taken out in taxes, thereby getting a large return?
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-I set up to have extra money taken out of my paycheck to virtually guarantee a return.
-Does this vary by state, and if so, does anyone know how Washington (State) behaves regarding this.
Thank you, all.
–> Nicholas: Are you certain that a previous return would be part of the next year income? That seems incorrect as that money has already been taxed. It’s not income, it’s an overpayment in taxes. I’ve been looking and can’t find exactly the info I need. Would you be able to point me to your facts?
Thanks for the help. 
December 16th, 2009 at 7:55 am
No. Uncle Sam thanks you though for being able to make money from your excess tax being withheld.
IRS Publication 17
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December 16th, 2009 at 9:03 am
I don’t think so because I do the same thing and have never gotten pentlized in florida.
IRS Publication 17
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December 16th, 2009 at 11:05 am
dcpacker is mostly correct. There is no real penalty for over-withholding. However, depending on your individual situation, it may not be the best thing for you.
As dcpacker lightly touched on, the government makes extra money from your tax return. Think of it as a savings account. Whenever the government recieves an income-tax withholdings check from an employer, that money goes into a large savings account. When tax-season comes around, refunds are given out of that savings accounts, and debts are paid into it. Sometime between July and October, congress decides how to split, or budget, the remains of that savings account.
So, if you deserve a $200 tax refund, the government has earned and kept the interest earned on that $200 wheras you could have invested the money yourself and had the interest.
For people who are exceptionally disciplined at saving and managing money, I reccommend not withholding ANY taxes, throwing 33% of everything you make into a savings account, and paying a lump-sum tax at the end of the year.
For those who are not as gifted, such as myself, I feel that it is best to withhold as much of your money as you can afford. Then at the end of the year you will have a nice, large sum of cash to spend as you please.
The real penalty that comes from over-withholding is one that is often forgot. When filing your taxes, you must claim the previous year’s return as taxable income. For instance, if your tax rate were 10%, and you make a $30,000.00 annual salary, your annual taxes due would be $3,000. Let’s say that in 2005, you withheld $5,000 ($2,000 too much). On your 2006 taxes, your taxable income would become $32,000.00, and your taxes for that year would come up to $3,200. That’s assuming that the two grand didn’t bump you into the 11% tax bracket!
Now, my numbers may have been a bit unrealistic, but I was just using them for simple math, and I think that it makes a good point.
You don’t want to give too little, unless you are planning to pay in and have the money set aside; but you don’t want TOO big of a return either.
Hope this helps,
-Nicholas
IRS Publication 17
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