The PF blogging community would be so ashamed of me: I’m getting a large tax refund.
The why
Here’s the thing: At the start of 2020, I didn’t know how much I’d be able to put into retirement that year; and I wasn’t sure whether I’d get all the same deductions that I did in 2019. So despite getting a sizable federal tax refund, I didn’t change my estimate tax amounts.
Okay, admittedly, this was also part laziness. It sounded like a lot of work — and since some of it would be guesswork, it would be a lot of work that was also fraught with anxiety. No thanks. So 2020 Abby left it up to me, 2021 Abby, to sort it all out. Thanks, past me.
And of course, then COVID happened. I couldn’t exact go out or travel, so I suddenly had fewer expenses. As a result of that plus a small raise I’d gotten, in 2020 I was able to put $6,300ish more into retirement than I had in 2019. Which of course, lowered my taxable income. And had I done five minutes of research, I would’ve found that, yes, I would get all the same deductions as the previous year.
As a result, I was apparently vastly overpaying my taxes. My federal refund will be $3,464, and my state refund will be $1,231.
In my defense for the state refund: It normally would have been “only” an $831 refund. But it turns out an organization I donated to with part of the first stimulus check is considered a Qualifying Charitable Organization by the state, so I got a 1:1 tax credit for donations up to $400.*
And with no change in pay for 2021, I can expect to owe about the same amount in taxes this year as last. Well… probably.
*This year I’ll do the same, but by diverting some of the money I’ve been sending to Feeding America to local QCO food banks instead. People in need get fed — but so do my retirement accounts.
The (social butter)fly in the ointment
My friends and I want to go to Vegas once everyone is fully immunized. (The last two members of the group got their first shot on Saturday! Woot!) This will mean dipping into my vacation fund, which means afterward I’ll go back to putting in $100 a month. So that’s an extra $100 out of potential retirement contributions each month.
Also, my friend Brandon is pretty hell-bent on making up for lost time, so he’s proposing all sorts of activities that will mean I’ll need start allotting money for going out again.
So that will also mean less money for retirement contributions. But I do want to be social again, so it’s worth a little sacrifice. And of course — at least as long as Aaron and I are working — I won’t be Ubering to multiple dates each week, so I probably won’t need as high a budget as I had at the beginning of last year.
All of that being said, now that I’ve refigured my estimated taxes, I’ll have an additional $300 a month to play with. That should cover the blast-from-the-past spending categories — well, once Brandon calms down a little.
Where these refunds will go
I’ve already gotten my state refund, which went into my Roth. I’ll finish maxing that out with the federal refund (leaving $1,799 to spare).
That’s important because my monthly budget has a line item for a $500 Roth contribution from my personal checking account. Now that the Roth is replete for the year, those $500 can stay in my business account, allowing me to put them into my SEP or 401(k).
To be clear, this doesn’t mean I’ll be contributing $4,500 more than last year. In 2020, I also maxed out my Roth early (also thanks to tax refunds) — but not til July.
This year, the last contribution (other than the refunds) will have been March’s. So that’s four extra months that I can potentially (assuming no huge credit card bills) contribute $500. Woot!
Small but steady wins the race
I know some people like large tax refunds. It’s a way for them to save money, which they then get once a month to cover necessary expenses or pad savings.
And hey, if that’s your method (and you don’t think automated transfers would work) then buddy, you go ahead and keep that withholding high and enjoy your annual big check.
But for me, refunds are a problem for two reasons.
First, my SEP/401(k) contributions have to come from my business account, but my tax refunds go into my personal account. Technically, I could deposit them into the business account as an owner contribution but… It would complicate the business return that I finally got simplified enough to do myself (a $500 savings). So… no.
This year, I’ll get around this by putting the rest of the refund into checking rather than savings and withholding the same amount from my employee paycheck as a 401(k) contribution.
But besides making my monthly money math more complicated, the idea of waiting for a refund for a full year before adding it to retirement brings me to the second problem: I’ll lose compound interest.
As many a personal finance blog post has espoused, the sooner you get money into your investment or retirement accounts, the more compound interest can do for you. Sure, putting in the money a few (or even several) months later may not make a huge difference — but if my balance is lower during a strong market uptick, it actually would.
So it’s best for me to make smaller monthly contributions rather than a larger sum annually.
This year’s plan
As I said, I am trimming $300 a month from my estimated taxes. Since I’m paranoid, I made sure to leave a cushion in taxes paid. Based on my rough calculations, I’ll overpay my federal taxes by around $575; state taxes will be overpaid by about $120.
Of course, if I do sock even more money into retirement this year, it’ll further lower my tax burden and create a bigger refund and perhaps landing me in a similar situation. But with the adjustments I’ve made, the refunds won’t be nearly as large.
Besides, that’s a problem for 2022 Abby.
Anyone else getting a big refund this year? Was it on purpose? And of course, what will you use the money for?
Larger than I expected. With the divorce, I put it away as single, but realized due to the way child support played out, I can claim head of household. Money is going into a boring savings account to flush it out for long term bumps.
I’ll probably leave my withholding the same for this year just to make sure it wasn’t a fluke and then adjust in 2022.
After a divorce there is nothing boring about a savings account t! Glad you got a nice surprise!
We’re paying in, doveach year because of untaxed bonus funds and plan for it. This year we paid in more with no college deduction since out daughter earned so much herself.
Sam recently posted…No Plan Meal Planning
Oh wow, sounds like you planned very wisely given all that. Glad you’re keeping tabs and being careful.
If you pay quarterly estimated tax payments because you are self employed it is basically impossible to get a refund. Because any overpayment is used to offset the first quarterly payment for the next tax year. I guess it is kind of like a refund since you don’t have to send in as big a check that first quarter but since you don’t actually get money back to deposit it doesn’t feel the same. I never minded getting big refunds, mine normally were the same size as yours back when I had a job, I know the math says that isn’t smart but the feeling is pretty good, and to me was worth the few hundred bucks it might have cost me. And the few times I owed more and had to write a check, even though it wasn’t a financial hardship, it was no fun at all! Plus my pay could double or cut in half one year to the next due to bonus and stock awards, I just never knew what I was going to make so the cushion felt “safe”.
steveark recently posted…Time and Money
I’m glad you enjoyed your refunds and yeah variable salary is a huge headache and makes projecting exact minimum taxes too big a headache.
But as for the estimated tax stuff, that’s actually not true.
On your tax return after it calculates your taxes owed and then shows what you paid, there has always (not just on the new 1040 forms) been a Refund box that asks you for your bank info or lets you choose a check. Below that is a field that has a box and the line reads “Amount of line [whatever] that you want applied to [the following year] taxes. So you have to actively input information to have the apply it.
Maybe if all options are left blank — you don’t say you want the money sent to you — the IRS would play it safe and just apply the amount shown. But it is definitely a choice and for the last 10 years I’ve paid estimated taxes I have always gotten a refund sent to me.
So if I’m the future you have to pay estimated taxes, rest assured that you can absolutely get a refund.
You are correct, Abby
I actually owed money this year because Reasons. Dammit.
Donna Freedman recently posted…Monday miscellany: Tiny greens edition.
Well owing sucks. But usually owing money happens when you earn more than expected. So when that’s true, there’s a slight silver lining I suppose.
I enjoy getting refunds, myself, but I don’t have the complications that you do with the retirement account.
We’re paying a whammy of a bill this year for both federal and state though, because we unloaded the rental. I’d set aside the cash for it at the time but it still stings to see how big that bill is.
Revanche @ A Gai Shan Life recently posted…Living in the time of pandemic: COVID-19 (41)
Oh wow you go rid of the rental? I mean this is definitely the time to do it if you want to sell. And it seemed like it was a lot of hassle. So hopefully this is a good hi g.
And yeah even when you know it’s coming, seeing the numbers stings
Hey, I don’t think anyone in the PF Community will fault you for receiving a tax refund! I have zero clue how my taxes work so every year, I’ve received a tax refund and have no clue how to adjust anything so that I have to owe taxes.
Almost $5,000 is a surprise gift from the government that you can use towards anything that you could possibly want, within reason.
David @ Filled With Money recently posted…7 Ways You’re Being Taken Advantage of at Work
Oh it’s a running joke, especially on Twitter, that the PF community is so rabid about not giving the government a 0% loan that they look down on you if you routinely get a large refund. Unfortunately, it’s only a joke because PF folks crapping on people getting tax refunds became so commonplace.
And it doesn’t sound like it’s bothering you, but if you did want to adjust withholding, you’d just need to talk to HR/accounting. They could help you tweak the taxes taken out of your check.
Their default is the standard withholding rates based on the number of boxes you checked on your W-4, so as I understand it, you just have to tell them a specific amount to withhold instead. Which would be what they’re currently withholding each month minus 1/12 of your tax refund (if they need a monthly number) or 1/26 of your refund (if they need a per paycheck amount). And you’d want to pad the resulting amount a teeny bit in case of things like bonuses or other unforeseen income.
I am waiting for a large refund because I didn’t get my second stimulus check but was eligible. I was kind of annoyed but I really didn’t loan the government money for very long. I have a tax preparer do my taxes because I had a nightmare return for 2019 and there were some holdovers this year. I usually do my own taxes but with multiple states involved from an inheritance I needed backup. I’m glad I have it because I would be worrying about audits otherwise.
Eesh, yeah that sounds complicated. Sometimes it’s best to call in an expert — even if you had been able to use tax software, worry about audits won’t keep you up at night this way. Glad you’re able to retrieve the second stimulus, though it sucks you had to wait this long. I hope your refund comes soon!
I received about $750 refund from the federal return but I owe the state. Will be coming out of bank account on April 1.
Of course, I forgot to include the K-1 from my dad’s estate, so I have filed an amended return for a $90 refund. I have no idea when that check will arrive.
State taxes are so tricky for me. I just look at what my previous year’s taxes were and base the next year’s payments on that — padding a little if I received a raise — and I guess that’s enough because there has only been one year that I owed money. And it was $3. It felt like a joke to write out the check, honestly.
I hope your check comes soon. Even without the recent backlog at the post office, I decided not to do physical checks anymore after my check got delivered to my neighbor last year. Luckily, she was honest and dropped it off, and I doubt it would happen again but… yikes!
I know the traditional opinion of financial advisors is to reduce your withholdings so you don’t get a refund. The thought is you can use your money through out the year and earn interest on it if you stash it. With the current teeny, tiny interest rates there is no benefit to getting the money sooner though.
All together you are getting back about $5K. If you withheld less each month some money would be put back for 12 months and other just one. Averaging the time would be six months. $5K with 2% interest (that is generous) for six month is about $5.
You are probably paying more than 2% interest on your house. The length of the loan is long enough that compounding is significant. Apply the $5K towards your principal and you will see a big gain.
You are doing great. It is a good problem to have.
Yeah, Ally is currently giving 0.5% so the “free” loan to the government is barely different. I think the main idea for those proponents is that you could be investing the money (so 6-7% return) rather than giving it to the government. Even so, I’m not that freaked. I put away a lot of money last year, and I would’ve been happy putting away the same amount this year. So extra money in the accounts is just a bonus.
I’m paying 4.25% on my house, but my balance as of this last payment is now just under $40,000. Given that I pay down about $900 in principal each month, I gamed it out and that’s only $1,181 in interest accrued for the rest of the year. So I think it makes more sense to keep stuffing money in retirement to help compound interest since I have a shorter window for that than a lot of people (at least in the personal finance blogging community) for the money to grow.
But yes a good alternative to retirement account-stuffing would definitely be the house rather than a savings account. Especially now, but just in general, really, as long as my savings account and emergency fund balances are robust enough as it is.
When I was working, I managed my withholdings like a fiend. Now I’m FIRE, but DH still works. In 2018/2019 we flipped a house for fun and profit. Our state has a huge mandatory withholding rule. When we did our taxes, that amount covered what we owed the State and the Fed plus a $10k refund. That was nuts! We haven’t filed yet this year, but I’m sure it will be much less eventful. The RE market is so nuts and supply chains are so disrupted, we’re unlikely to do another flip project soon. Yay for boring taxes!
Boring taxes would be lovely! I hope things aren’t as crazy this year. It sounds like you have a good handle on them.
Any refunds that come my way go into a special savings account at the credit union, creatively named “Tax.” Et voilà! If any money is owed the following year, this fund goes a long way toward defraying it.
Handy system! Since my income doesn’t vary a huge amount, a buffer fund is less necessary. But I think anyone with irregular income would be well served by having funds at the ready.
Better a refund than owing a lot! We had a crazy year again with a refinance, some stock transactions and some other stuff and on the plus side, we earned more than we expected to but we also paid sizable quarterly extras and still owed for the year. Blahhhh. Better luck next year. 🙂 enjoy the refund!
Ouch on the still owing! It’s hard to estimate income sometimes. But I guess having had MORE money than expected — even if it meant some extra taxes — is good, right?
I will definitely take it over the alternative!