(This post originally appeared on Philly.com)
Will your tax refund be lower this year? Good for you!
“It totally feels like a scam,” John Prugh of Ewing Township, N.J. told the Washington Post. “I did still get a small refund, but compared to what I was expecting from previous years, it was shock.”
John should probably talk to his accountant before getting so irate.
It is true that a recent IRS report showed “very early in the season” that average refunds are down so far about 8 percent versus the average refund issued this time last year. Many are taking the numbers and using them as another knock on President Donald Trump and the Republican Party’s signature 2017 tax reform package. Others are saying that it is too early in the season and that due to the January federal shutdown fewer tax returns have been filed and processed by the IRS so far this year.
The fact is that the amount of the refund actually has nothing to do with what we ultimately owe the government. In my opinion, we’re not going to know the true effects of the 2017 legislation and how it affected our 2018 taxes until all the returns are filed. And we won’t know how the those tax cuts will affect business spending and investment until we have a few years of this new, lower tax environment under our belts.
“We have said people will be surprised, but how that comes out in the aggregate is to be seen,” Kathy Pickering, executive director of H&R Block’s Tax Institute, said in USA Today. “Don’t put too much into these initial numbers from the IRS, because the volume is down and it may be hard to parse out the tax-reform impact from the shutdown impact.”
Regardless, a lower tax refund is still good news. Why?
Because you shouldn’t be getting any tax refund at all. You shouldn’t owe the government, either. Any competent accountant will tell you that, in the best of circumstances, the taxes a small-business owner pays during the year from withholdings and estimated payments should equal the taxes that are owed. In other words, it should be a wash.
Why would you want a big refund, anyway? It just means you overpaid the government and it is giving you back the money interest free. Couldn’t you have found a better use for your money last year? Of course you could.
If you’re in the habit of waiting until your tax return is filed to find out whether you owe money or money is owed to you, then you need to change that habit. If you’re a small-business owner drawing a salary (or a typical individual taxpayer) you should be revisiting your Form W-4 and making sure it properly reflects your tax filing status (i.e. married, head of household, etc.), whether you have dependents or if, because of other sources of income, you decide to withhold an additional amount.
Tinkering is fine – go ahead and adjust your W-4 based on your withholding on your last couple of paychecks and then adjust it again. It may slightly annoy your human resources person, but then again that person isn’t stuck with your tax bill next year, right?
As a small-business owner, you’re likely having taxes withheld on your salary, plus you’re paying estimated taxes quarterly. Generally, and unless your tax bill is less than $1,000, you’ll have to pay in at least 90 percent of the tax you estimate you owe for the current year, or 100 percent of the tax shown on the return for the prior year, whichever is smaller.
It’s important to know that your estimated taxes aren’t a fixed amount, either. They can be changed each quarter, if you want. It all depends on how your business is doing. If you’re having a not-so-great year, then pay in less next quarter. Do the opposite if things are going better than predicted.
All of this requires some help, and for this my smartest clients turn to their accountants. They get year-to-date financials done each quarter, meet with their accountant regularly, forecast what they believe will happen for the rest of the year, and then adjust their taxes accordingly. This way, you’re maximizing your cash flow and not giving away too much (or too little) to the government.
So, did you get a big refund this year? That’s a shame.