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A Smaller Refund Does Not Mean You paid More Taxes!

February 20, 2019

Clearing up Misconceptions Regarding the Trump Tax Bill. 

OK, right out of the gate, I am not here to defend or disparage the president or the Tax Bill that was passed last year.  Wading into that political maelstrom is the last thing I want to do.  However, i hear so much misinformation being thrown around by ordinary folks (who usually don't understand) and politicians (who understand full well, but choose to take advantage of ordinary folks misunderstandings) that I feel the need to clarify a few points.

The Tax Code and Refunds.  Apparently many people are getting smaller than expected refunds this year, and are using that fact to make the claim that they are actually paying HIGHER TAXES under the new tax law.  But in most cases, the truth is not that their taxes are higher, but that they paid too little during the year. In other words, they already received their tax cut, in the form of lower tax withholding throughout the year.     

1. Your employer uses IRS provided tables to essentially GUESS how much tax to withhold from your paycheck.  You can adjust this amount by claiming more or fewer exemptions on your W4 - but most people don't bother. 

2. The employer sends these taxes to the IRS. 

3. At the end of the year, you do your tax return - essentially computing how much tax you actually owed to the IRS.  This amount is on your tax return as "Total Tax Due". 

4. You then enter how much tax you ACTUALLY PAID from withholdings (or us self employed people, estimated tax payments we made during the year).  

5. If you paid MORE THAN YOU OWE you get a REFUND.  If you paid LESS than you owe, you write a check to Uncle Sam. 

So even if your taxes for the year are reduced, your refund may actually shrink if you didn't have as much withheld from your check.  But that doesn't mean you are paying more tax - it just means you already received your "refund" in the form of higher take home pay.  In fact, I am willing to bet a free cup of coffee that if you make less than $200,000 per year, and if you didn't get a big raise, then your total tax due was actually less than it was last year.  In other words, you benefited from the 2017 tax cut (agan, I take no position on the policy wisdom here - its just math!).  Nearly everyone, with few exceptions (mostly in higher income brackets), should be paying less tax this year.  

But They Capped My Local Tax Deduction!  

It is true that some people in high tax states may benefit less from the tax change than people in low tax states - but even in New Jersey most people are paying less tax than last year.  And most people aren't impacted at all by the "SALT" cap.   First of all, the new $24,000 deduction is higher than most people's total deductions under the old system anyway.  Would you rather have a $24,000 deduction for doing nothing, or a $12,000 deduction for paying property taxes?  I'll take the bigger deduction.  (OK, its a little more complicated than that because there are no longer any "exemptions")  Now when you consider the vastly lower tax rates that are applied to the income remaining after deductions (15% bracket now 12% - and 25% bracket now 22%) most people were paid quite handsomely for giving up their prized deduction.    

So the challenge is this - before complaining that your taxes are higher - take the time to review your tax return and compare the total tax number to last year's tax.   It might not actually make you feel better if you were counting on the refund to pay down debt or take a vacation - but at least you will know for sure whether or not you paid more tax this year.