Author Topic: Increase W4 Allowance & Increase 401K for Same Paycheck & Reduced Taxes  (Read 891 times)

Herm

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Hello,
Letís say my paycheck is $2000 with 3 allowances.  Then I increase the allowances to 10 to reduce my tax withholding and my check goes to $2300 (guess).  Then I increase my 401K contributions till I have the same $2000 paycheck.
 
It seems too easy to transfer what was previously taxed right to my 401K making that money no longer part of my income.

What am I missing?  Or shouldnít everyone increase their withholdings till they are able to max out their 401K once they know the minimum they need to live on?  $2000 a paycheck would be the minimum in this example.

Thank you for your help.  Iím worried Iím missing something because I couldnít find posts on this particular view of the subject.

OneCoolCat

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I don't fully understand the question but it all works out the same in the end; the tax consequences will be the same.

Herm

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Wouldnít I be reducing my taxes because the increase in my paycheck right now would be canceled by reducing my taxable income when filing taxes?  This scenario assumes Iím not maxing out my 401K and I canít decrease expense any further to increase my 401K contribution.

I keep viewing this as a way to reduce my taxable income.

Joel

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Um, you do realize that adjusting your withholdings has no impact on what you actually owe in taxes. You are however required to withhold a certain amount during the year such that most of your total liability is covered. By increasing your allowances too high, you run the risk of owing penalties and interest. I recommend doing some more research on how taxes work.

MDM

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Wouldnít I be reducing my taxes because the increase in my paycheck right now would be canceled by reducing my taxable income when filing taxes?  This scenario assumes Iím not maxing out my 401K and I canít decrease expense any further to increase my 401K contribution.

I keep viewing this as a way to reduce my taxable income.
If you contribute an extra $10K to your 401k, and your marginal rate on the entire $10K is 22%, your federal tax liability decreases by $2200.

How you apportion paying $2200 less, either by decreased withholding during the year, or a lower amount due/higher refund at filing time, is up to you.

Herm

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I do realize adjusting my holdings has no impact on what I actually owe at the end of the year.  Being able to get closer to maxing out my 401K does impact and reduce my taxes at the end of the year.  Increasing my allowance is the only way I am able to increase my 401K contribution and I already donít get much of a refund back.

Thank you for taking the time to respond.

katsiki

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You might find it helpful to play around with one of the paycheck calculators.

Here are two that I have used in the past:

https://www.calcxml.com/calculators/pay02

https://www.paycheckcity.com/calculator/401k/

Aunt Petunia

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My work has "payment modeling" on their HR site. Maybe yours does too.  You can go in and play around with withholdings and tax rates to see how it will affect your paycheck.

tawyer

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I do realize adjusting my holdings has no impact on what I actually owe at the end of the year.  Being able to get closer to maxing out my 401K does impact and reduce my taxes at the end of the year.  Increasing my allowance is the only way I am able to increase my 401K contribution and I already donít get much of a refund back.
Despite the other dismissive remarks on this thread, I think this is actually quite a clever workaround in a system where payroll mechanisms can often thwart attempts to maximize contributions. Bravo!

Thank you for your help.  Iím worried Iím missing something because I couldnít find posts on this particular view of the subject.
I suspect two reasons for the lack of posts on this topic. The first is that this board has a lot of high earners who don't need to do such maneuvers to max out their 401k. The second is that when you consider the complexity of calculating taxes with multiple incomes sources, as many here do, the sophistication required to pull this off without an IRS fine for underpayment becomes closer to that of an accountant.

MDM

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I do realize adjusting my holdings has no impact on what I actually owe at the end of the year.  Being able to get closer to maxing out my 401K does impact and reduce my taxes at the end of the year.  Increasing my allowance is the only way I am able to increase my 401K contribution and I already donít get much of a refund back.
Despite the other dismissive remarks on this thread, I think this is actually quite a clever workaround in a system where payroll mechanisms can often thwart attempts to maximize contributions. Bravo!

Thank you for your help.  Iím worried Iím missing something because I couldnít find posts on this particular view of the subject.
I suspect two reasons for the lack of posts on this topic. The first is that this board has a lot of high earners who don't need to do such maneuvers to max out their 401k. The second is that when you consider the complexity of calculating taxes with multiple incomes sources, as many here do, the sophistication required to pull this off without an IRS fine for underpayment becomes closer to that of an accountant.

Based on
This scenario assumes...I canít decrease expense any further to increase my 401K contribution.
my concern is that Herm thinks a 401k contribution can reduce taxes dollar for dollar, and thus allow the same spending along with more 401k contributions.  It doesn't work that way.

Proud Foot

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I do realize adjusting my holdings has no impact on what I actually owe at the end of the year.  Being able to get closer to maxing out my 401K does impact and reduce my taxes at the end of the year.  Increasing my allowance is the only way I am able to increase my 401K contribution and I already donít get much of a refund back.

Thank you for taking the time to respond.

With you not getting much of a refund back gives you only a little room to adjust your withholding allowances. I have the same concern as MDM. Because the 401k is before tax and your withholding goes against the tax liability the ratio is not 1:1.

Philociraptor

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I don't think this will work as you expect. Adding allowances is like telling your payroll department to withhold based on a lower income because you intend to use deductions on your 1080. When you contribute to your 401(k) pretax, payroll already takes that into account. When your company runs payroll they deduct pretax contributions and allowances from your federal taxable income for the purposes of cutting your check, but you'll still owe the taxes on the withholding reduction you create through allowances. Basically you're shifting when you pay from payday to tax day.

Field123

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I don't think this will work as you expect. Adding allowances is like telling your payroll department to withhold based on a lower income because you intend to use deductions on your 1080. When you contribute to your 401(k) pretax, payroll already takes that into account. When your company runs payroll they deduct pretax contributions and allowances from your federal taxable income for the purposes of cutting your check, but you'll still owe the taxes on the withholding reduction you create through allowances. Basically you're shifting when you pay from payday to tax day.

Philociraptor beat me to it. At least in my case, my payroll takes the 401k contributions into account.

In other words, all other things being equal, I will not achieve a higher tax return by increasing my 401k contribution. I will pay less tax, of course, but this is already accounted for by reduced witholdings associated with my 401k election.

I think OPs plan will result in a very unpleasant surprise come tax time

Herm

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I do understand 401K doesnít reduce taxes dollar for dollar.  I think this is where it gets fuzzy for me and why I asked the question.  From the simplistic view I was taking.  I know I need to pay taxes on my adjusted gross income and want to get that as low as possible by tax deferring income with an HSA, 401K, etc.  Iím lowering my gross income by increasing my 401K contributions to get my adjusted gross income lower.


My payroll does take 401K taxes into account.  My question wonít be lowering my adjusted gross income and thus wonít be lowering my taxes.  I was originally thinking I could lower my adjusted gross income further which was wrong.

 
THANK YOU SO MUCH for taking the time to respond and help me understand our tax system.  Iíll stick to the estimated allowance using the IRS W4 form and the links provided by katsiki.

Taxes are FUN!