Why Do I Owe Federal Taxes? And How Do I Minimize Them?

You paid federal income taxes on every paycheck. So why are you holding a bill from the IRS? Most Americans tend to overestimate their tax withholdings as part of their national aversion to paying taxes. This is why many people now ask, "Why do I owe federal taxes?" Most times, it simply comes down to one thing: over the year, you paid less than your total tax liability.

The average tax refund is around $3,000, but changes in tax law or your finances might mean that you don't get a refund. You might owe money instead. So, if you're wondering, "Why do I owe the IRS money?" There's a good reason. 

The answer to why you owe taxes is likely in your pay stubs. To get it, you can easily make your pay stub online. This article explains what makes you owe taxes and how to avoid a tax bill again next year.

Why Do I Owe Taxes?

Given the intricacies of the IRS, there could be many other factors that explain why you owe taxes. Understanding the reasons is the first step to answering the question, "Why would I owe federal taxes?"

1. Not Making Changes to Your W-4

The answer may be right in front of you. Can you remember the last time you updated your W-4? Maybe you received a tax bill for the first time this year because you didn't update your W-4. Certain tax bills attempted to lower taxes, but the IRS says that won't be the case for everyone. While it may have lowered tax rates, it also did away with many itemized deductions that you counted on in previous years. 

As soon as you stop claiming dependents, your rate will increase. Therefore, make sure you adjust your paperwork as soon as you can no longer claim one of your children as a dependent. You need to make yourself a single filer; if not, it could affect your Child Tax Credit.

2. You Earned Extra Income

Anything that you don't earn from your primary W-4 employer is still subject to tax and comes with a 1099 form. To pay taxes on your extra income, you'll file a 1040 form. It covers everything from your side hustle, lawsuit winnings, to money earned from property. Even if you earn interest or receive dividends, the IRS taxes most of this income. This is a major reason why people owe money on their tax return.

For people with self-employment income or gig workers, you need to make estimated tax payments to cover this liability. If this extra money didn't have taxes withheld, it could push you into a higher tax bracket and create a surprising tax bill. This also applies if you received unemployment benefits or took a retirement distribution. Most times, these are taxable but may not have enough tax withheld.

3. You Live in a High-Income Tax State

Taxpayers in states with high income or property taxes may face higher federal tax bills due to the $10,000 SALT deduction limit. There are new limitations on deducting non-federal taxes. Therefore, if you reside in a high-tax state, you may end up paying more to the federal government. This contributes to a higher federal tax bill.

4. Change in Tax Situation Due to Life Events 

This is also one of the major reasons people owe money to the IRS. When you started your job, you filled out a W-4 form for your employer. It tells how much federal income tax to withhold from each paycheck. If that form isn't accurate, you might not have enough tax withheld. Certain life events, such as getting married, having a child, or starting a second job, can change your tax situation. If you don't update your W-4 after such events, the withholding may no longer be enough.

How To Lower a Tax Bill

Lowering your tax bill will likely require you to make contributions elsewhere. However, you can use those contributions for other things, rather than handing them over to the IRS for good. Here's how to get it done:

1. Max Out Your IRA Contribution

You can deduct contributions to a traditional IRA. Although this deduction may be limited if you or your spouse is covered by a workplace retirement plan. The good news about your IRA contribution is that it doesn't need to be done by the end of the current tax year. You have until tax time in April to meet the maximum contribution. This makes it a great last-minute strategy for lowering your tax bill. It then reduces your adjusted gross income, which can lower what you owe.

2. Fund Your Health Savings Account

The health savings account trick works for those who have insurance with a high deductible. By contributing $3,500 per year to an HSA, you can deduct it from your taxes. If you have a family, you can contribute $7,000. HSAs are a good way to keep hold of your money and also save it for something critical. It could be something important like the cost of health care.

3. Switch Up Your W-4

If your tax bill is due to a poorly managed W-4, you need to correct it. You'll have to be more conservative with your withholding estimates. Remember, you don't have to wait until the end of the tax year to update your W-4. You can do it at any time. Your best bet is to go through your W-4 and make sure you are having enough tax withheld. If you don't know how to fill out your W-4, use the W-4 withholding calculator.

4. Deduct Medical Expenses

If you have a medical event that resulted in bills totalling more than 7.5 per cent of your take-home pay? You can write those bills off your taxes. Did you make $50,000 last year and spend $5,000 on excess medical bills? Your minimum threshold was $3,750. So, you can write $1,250 off your taxes. Keep those receipts!

5. Make Purchases Strategically

Worried about your tax bill? Make big purchases strategically. For example, if you want a big expense to count for this current tax year, make large deductible purchases before the end of your current tax year. This is to ensure they count toward this year’s deductions. Unlike retirement contributions, itemized deductions like this can only occur in the tax year.

On the contrary, if you are worried about your tax situation, hold off on big non-deductible purchases. Do this until you know your liability. Paying your tax bill is important because the IRS will charge fees and penalties if you don't pay on time. Even if you get a filing extension, you need to pay by the original April deadline. If you cannot pay the full balance, the IRS does offer payment plans to help you manage unpaid taxes.

In Summary

Instead of owing the Internal Revenue Service, you can avoid owing taxes completely. The first thing to do is to adjust your withholding, update your W-4 and make quarterly estimated tax payments. Also, use accounts that support taxes. For example, contributing to traditional IRAs or 401(k)s. If you're self-employed, use a SEP-IRA or Solo 401(k) to lower your adjusted gross income. Lastly, ensure you stay informed about any tax changes. All of these help to improve your filing status and increase your income.

While filing your taxes is important, you need your tax forms to do so. So when thinking, “Why would I owe taxes?”, you first need forms, such as your pay stub and W-2. Generate your pay stub with our paystub maker. Also, you can create a W2 form with our tool. Visit us now!