Tax Day, April 17, is right around the corner! With Tax Day quickly approaching, what better topic to discuss in our Financial Literacy Month blog series, than tax refunds.

Whether you’re new to the workforce or a seasoned professional, taxes can be confusing and extremely frustrating. Before you get super excited about the chunk of change you are about to receive from the government for 2016, it is first important to understand what your tax deductions and refund really mean.

Americans are taxed progressively—meaning the more you earn, the more you pay. Based on someone who is filing as a single independent, this chart shows the marginal tax brackets and at what percentage you should be taxed.

Total Income Per Year: Total Income Tax Percentage Required Per Year:
$0- $9,225 10.00%
$9,225- $37,450 15.00%
$37,450- $90,750 25.00%
$90,750- $189,300 28.00%
$189,300- $411,500 33.00%
$411,500- $413,200 35.00%
$413,200+ 39.60%

 

Federal income taxes are taken out of every pay check by your employer at a rate that estimates your total owed taxes for the year and are sent directly to the Internal Revenue Service (IRS). If you pay too much tax over the course of the year, you will receive a refund from the IRS for the total amount of your overpayment. If you under pay, you will owe the IRS money at the end of the year.

The amount of taxes taken out of each paycheck is affected and determined by your withholding status. The more withholding allowances you claim, fewer taxes will be taken out of each pay check; the fewer allowances, the more money will be withheld per pay period.

It is very important to pay attention to your allowances and re-think/review your filing status on your W-4 form each year. Making appropriate adjustments when any life changes occur will ensure you are not having taxes deducted at an impractical rate from year to year.

Check out this cool tax withholding calculator from Kiplinger to help determine the most appropriate filing status for you!

It is important to think about what a tax refund can mean for you. Sure, it is nice to receive a check at year’s end but this might not be the best approach.

Receiving a refund is not a gift from the government. It means you overpaid and you essentially awarded the IRS an interest-free loan. What do you think? Would a better approach be to keep a little extra cash in your bi-weekly paycheck and break even with the IRS at year’s end?

You could use the extra cash in each paycheck to pay down debt overtime or invest the money throughout the course of the year! By waiting until the end of the year to use your refund, you have not only lost out on the opportunity to invest for an entire year but you may have also allowed your debt to accrue additional interest.

What is the best way you can increase your savings? It may be worth thinking about your withholding status for 2017.

Check in with us next week as we continue our financial literacy series and look at “Setting Goals & Saving for the Future.”