Employee Taxes: Are Your Employees Withholding Enough Income Tax?
In 2019, many Americans had a rude awakening: their tax refunds weren’t as big as they’d expected. Many people owed instead of getting a refund. Employee taxes, such as federal income tax withholding, seemed to have been under-withheld.
Changes to the tax code left employers and employees alike wondering what steps they could take to avoid tax surprises in future years.
The key to helping employees avoid under-withholding is taking a proactive stance on employee taxes. The experts below can help your team understand what happened with the changes to the tax code. From there, they offer actionable advice to help employees get their withholdings updated to minimize surprises.
Why some taxpayers were caught off-guard
“You fill out a W4 when you get a new job, and then you don’t think about it again until you have the next first day of the next new job,” says Ben Watson, CPA and CFO of Dollar Sprout. The “set it and forget” nature of the W4 form means that life changes, but the information on your W4 form doesn’t. Out-of-date information can lead to under-withholding employee taxes, especially in a year with significant changes to the tax code.
Even if employees had taken steps to update their W4, the form itself might have been the reason for under-withholding. “It’s possible that the current version of the W4 form hasn’t been the best tool to help employees get the right withholdings, even if they go step-by-step through the worksheet,” says Brenda Soucy, an IRS Enrolled Agent and manager with Lopez, Chaff, & Wiesman Associates Inc.
Soucy adds that multiple income streams can also create an under-withholding situation. “If you have a bunch of smaller jobs where you make $20,000 on each job, your withholding on those jobs assume this single job is your only income,” she says. “But if you have three of those $20,000 jobs, that’ll put you in a higher tax bracket.”
The rise of the gig economy adds to the scenario Soucy describes. Jobs like rideshare driving and delivery services typically don’t withhold employee taxes. Employees might not have increased withholdings at their full-time jobs to account for their increase in income, leading to under-withholding.
New tools to estimate withholdings
While launching a year later than changes to the tax code, there are new tools that will help with adjustments.
The first new tool is a revised W4 form. Estimated to arrive for employer use in December 2019, Soucy says the new form “takes many new factors into account, like dependents, other income, and multiple jobs.”
These changes point toward more accurate estimates for withholdings moving forward.
The IRS has also released a new online withholding calculator. Employers can distribute a link to the calculator to employees and invite them to update their W4 form withholdings, even before the new W4 form is released.
Steps employers can take
In addition to the new tools from the IRS, employers can help educate employees about changes to the tax code.
Watson suggests that employers partner either with their existing financial services partners or look to firms in the community to provide education.
“Reach out to your tax firm. Reach out to your payroll provider. Ask them, ‘What do we need to know?'” he says. “By inviting partners to share information about tax code changes, the burden doesn’t fall on employers to pass this information on to their employees.”
Atiya Brown is a CPA and consumer debt management specialist who also advocates for employers to bring in specialists to keep employees up-to-date each year.
“The changes that happen in an employee’s life aren’t necessarily something employers know about or even think about,” she says. “By having someone come in and explain all these new changes – changes to deductions, the W4 form, the new online withholding calculator – employers are taking a proactive stance.”
Brown also adds that employees can forget that they’re in control of their withholdings. “When employees have the perception that an employer under-withheld their taxes, their employer does what the employee told them to do on their W4 form.”
By empowering employees with up-to-date tax information annually, your company can play a role in demystifying a seemingly complex process.
To put your company ahead of the pack, here are a few additional tips from the experts above that can help pave the way to more accurate withholdings.
Don’t forget about employee benefits.
“Don’t just offer benefits. Offer the education to help employees understand the tax implications of their benefits,” says Watson. When you invite financial partners to educate employees, make sure they thoroughly address the breadth of your company’s benefits. And, just as important, how each of these benefits impacts an employee’s tax situation.
Have open conversations about gig income.
Brown wants employers to embrace the reality that many employees might have a side hustle to make ends meet. “Employees should know that they can increase their withholdings at their employer to account for income from a gig job,” she says. “Employees can even specify a specific additional dollar amount to be withheld from each paycheck.”
Conversations like these can also help employees avoid end-of-year tax surprises.
Engage Human Resources.
“Have HR put together a week each year with the sole purpose of encouraging employees to update all of their information on file with the company,” says Watson. HR departments can build annual agendas that include lunch-and-learns and “CPA Days”. During these events, employees can receive general tax information, benefits education and enrollment, and more. Employee taxes are a very human topic with wide-reaching effects on an employee’s life beyond the workplace.
While companies could see payroll taxes as something unpleasant to discuss, employers can lead a narrative that creates happier employees.
“As an employer, you want your employees to be happy,” says Brown. “If employees perceive that their under-withholding is something that’s their employer’s fault, that’s a source of tension in your company. Education has the potential to create happier, more empowered employees. Whichever avenue employers choose to pursue employee education, whether a webinar or lunch-and-learn, that’s a step toward decreasing potential tension.”