Smart TaxesSmart Taxes

Why are you making interest-free loans to the IRS?

Instead of getting a tax refund, you can keep the money to use during the year.

By Jeff Schnepper Feb 1, 2010 12:20PM

It makes no sense to me.

 

In 2003, the average federal income tax refund was $1,988.  It jumped to $2,081 in 2004, rose to $2,171 in 2005 and exploded to $2,237 in 2006, $2,309 for 2007 and $2,400 for 2008.  As of April 24, 2009, the average 2009 refund was $2,683. The total refunded in 2008 was almost $257 billion, to 107 million taxpayers. In 2009, the numbers rose to $259 billion owed to almost 97million taxpayers.

 

That’s a huge interest-free loan to the IRS.

 

At just 1% interest given up, that’s more than $2.5 billion a year -- enough to clothe both my daughters for at least six months.

 

I understand. It feels good to get a big refund.

 

But that’s just until you recognize that the money was always yours and you let our government play with it for a year, interest free.

If the average 2009 refund was invested at 5%, that would have put an additional $67 in your pocket. It’s not going to change your life. But better in your pocket than theirs. Have a dinner on the IRS.

 

That’s in addition to the $2,683 you’d have during the year.

 

Don’t give the IRS any more than you have to. The IRS has what it calls “safe harbors.” Hit those targets and, regardless of how much you owe April 15, there is no interest or penalties.

 

For 2010, that would be 100% of your total tax, line 60 on your 2009 Form 1040. If your adjusted gross income for 2009 was more than $150,000, the safe harbor jumps to 110% of your 2009 total tax.

 

Other safe harbors include 90% of your current (that would be 2010) year’s tax, or owing no more than $1,000 when you file in April 2011.

 

You have an absolute right to change your withholdings at any time. Ask your employer for a new W-4. Match your withholdings to meet a safe harbor.

 

Still afraid you’ll owe money in April? Hit any safe harbor and put any excess in a money market account.

 

That way you’ll have the cash either to pay any tax due or, if no additional tax is required, to party.

 

And, you’ll have the interest from the money market account. Now, who wants to take me out for dinner?

 

Related reading:

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