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If you're getting a significant tax refund every year based on wage withholding, you're doing it wrong. Not because getting money back feels bad — but because you've been lending the IRS thousands of dollars interest-free for months while you could have been investing it, paying down debt, or just having access to your own money.
On the flip side, if you owe large balances every April based on W-2 wages and aren’t meeting safe-harbor thresholds, you're also doing it wrong. You're setting yourself up for an unpleasant surprise and potential underpayment penalties.
The goal is simple: Get your withholding as close to breakeven as possible. Here's exactly how to do it.
If you’re short on time, don’t worry - there’s a TL;DR at the end.
The IRS redesigned the W-4 in 2020 to make it more accurate. It's different from the old "allowances" system, but it's actually better once you understand it.
The five steps of the 2025/2026 W-4:
Step 1: Personal Information
Step 2: Multiple Jobs or Spouse Works
Step 3: Claim Dependents
Step 4: Other Adjustments (Optional)
Step 5: Sign and date
What happened to allowances?
They're gone. The new system is more accurate because it asks for actual dollar amounts instead of allowances that were confusing and often led to under-withholding.
You need:
Last year's tax return
Current year pay stubs (all jobs)
Spouse's information if married
Expected changes this year
Don't guess. Use the IRS tool.
Why this tool is actually useful:
It accounts for:
What you'll need to input:
The output:
The tool will tell you:
The IRS calculator will generate specific instructions for your W-4.
Example output:
"For your main job at ABC Company:
For your spouse's job at XYZ Corporation:
Follow these instructions exactly.
The calculator aims for a small refund (typically $500-1,000) as a buffer. If you want true breakeven, you can adjust.
How to fine-tune:
If the calculator says you'll get a $600 refund and you want breakeven:
$600 ÷ number of remaining paychecks = amount to reduce per paycheck
Example:
On your W-4, Step 4(c), reduce the extra withholding by $30 per paycheck (or if you weren't going to have extra withholding, enter an amount on 4(b) to reduce withholding).
The practical approach:
Most people should aim for a $200-500 refund as a buffer because:
If you want true breakeven or a small balance due:
Just reduce the withholding slightly from what the calculator suggests.
The complication:
If you both claim the standard deduction and dependents, you'll be under-withheld.
Why it happens:
Each person's W-4 assumes they get the full $31,500 (inflation-adjusted) standard deduction (married filing jointly, 2025). But you only get one standard deduction per couple, not two.
Option 1: One person claims everything
Option 2: Both use Step 2 properly
Option 3: Withhold at higher "Single" rate
Sarah makes $90,000, John makes $65,000. They have two kids under 17.
Wrong way:
Right way:
The issue:
Your employer doesn't know about your side income, so nothing is being withheld for it.
How to adjust your W-4:
Step 4(a): Enter anticipated self-employment income in "Other income"
This will increase your withholding - but note that the calculator doesn’t perfectly replicate the separate self-employment tax, so estimated payments may still be required.
Alternative: Make quarterly estimated tax payments instead of adjusting W-4.
Which is better?
Adjusting W-4 is simpler and automatic, but quarterly estimated payments give you more control and you can pay exactly when income is earned.
If you itemize instead of taking the standard deduction, your taxable income is lower, so you need less withholding.
Common itemized deductions:
Standard deduction for married filing jointly (2025): $31,500
Extra benefit from itemizing: $33,000 - $31,500 = $1,500
How to adjust W-4:
Step 4(b): Enter $1,500
This reduces your taxable income on the W-4 by $1,500, which reduces withholding over the year.
Caution: Only do this if you're confident you'll itemize. If you're borderline, just use the standard deduction assumption.
The problem:
Your new employer doesn't know what you earned at your old job.
Example:
Old job: $50,000 (worked Jan-June) New job: $60,000 annual salary (working July-Dec, so $30,000 earned) Total income: $80,000
Your new employer's withholding system assumes you'll make $60,000 for the full year. But you'll actually make $80,000. Result: Under-withholding.
The solution:
Use the IRS calculator with:
The calculator will tell you how much extra to withhold.
Typical fix:
Step 4(c): Enter extra withholding to make up for the under-withholding at the new job.
The challenge:
State forms vary wildly.
Common state form names:
General principles that apply to most states:
1. Match your federal filing status
2. States often use allowances still
3. Check for state-specific deductions or credits
4. Use your state's withholding calculator if available
Life changes:
Income changes:
Tax law changes:
Every January (at minimum):
Even without major changes, review your withholding because:
In June or July, do a quick calculation:
Federal tax withheld so far ÷ 2 = $5,000
Expected annual federal tax = $11,000
On track? $11,000 ÷ 2 = $5,500
You're under-withholding by $500 for half the year, so $1,000 annually.
Fix: Increase Step 4(c) by $1,000 ÷ 13 remaining paychecks = $77 per paycheck.
Your spouse gets a $20,000 raise. Your household income jumped significantly, but you never updated your W-4s.
The result: Your combined withholding doesn't account for the higher tax bracket. You owe $3,000 at tax time.
The fix: Rerun the IRS calculator every time either spouse has an income change over ~$10,000.
The math:
$3,000 refund = $250/month you didn't have If you invested $250/month in an S&P 500 index fund:
More realistic comparison:
That $250/month could have:
The psychological argument: "But I'd just spend it!"
Counter-argument: Set up automatic transfers to savings of that $250/month instead. You get the same forced savings effect but maintain control and earn interest.
Sarah:
Her W-4:
Step 1: Single Step 2: Leave blank (only one job) Step 3: Leave blank (no dependents) Step 4(a): $300 (interest income) Step 4(b): Leave blank (standard deduction) Step 4(c): Leave blank (no adjustment needed)
Result:
Withholding will be very close to her actual tax liability. Expected refund: ~$200.
Mike and Jennifer:
Mike's W-4 (higher earner):
Step 1: Married Filing Jointly Step 2: Check the box in 2(c) Step 3: $4,000 (two children × $2,000) Step 4(a): $500 (dividend income) Step 4(b): Leave blank Step 4(c): Leave blank initially, adjust after checking mid-year
Jennifer's W-4:
Step 1: Married Filing Jointly Step 2: Check the box in 2(c) Step 3: Leave blank (Mike claimed kids) Step 4: Leave all blank
Result:
Combined withholding should be close to actual tax. Expected refund: ~$400.
Getting your withholding right isn't about complicated math — it's about:
The difference between someone who optimizes their withholding and someone who doesn't:
That's an extra $250/month in your pocket throughout the year that you can invest, save, or use. Over 30 years, investing that $250/month at 7% annual returns (illustrative) = $302,000+.
Stop giving the government an interest-free loan. Get your withholding right.
The goal:
Get your withholding as close to breakeven as possible so you keep access to your money all year—without surprise tax bills in April.
—
1. Use the IRS Tax Withholding Estimator
The estimator accounts for:
It tells you exactly what to enter on your W-4. Don’t guess.
2. Coordinate W-4s (Especially if Married)
Most withholding problems happen when both spouses work and each W-4 assumes the full standard deduction or credits.
Best practices:
3. Adjust for Income Your Employer Doesn’t See
Employers only withhold based on your paycheck—not your full financial picture.
Consider adjustments if you have:
You can increase withholding or make quarterly estimated payments.
4. Aim for a Small Buffer, Not a Big Refund
A modest refund ($200–$500) provides a cushion. Large refunds usually mean you overpaid all year.
Update your W-4 when:
At a minimum, review every January and do a quick mid-year check.
—
Not sure if your withholding is optimized? A quarterly tax projection can show you exactly where you stand and what adjustments to make. Fifteenth can review your current withholding setup and help you dial it in so you're neither over-paying all year nor facing a surprise bill in April.
