Would You Rather Receive a Refund or Owe More Taxes?

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Last updated on July 17, 2018 Comments: 31

If you haven’t noticed, it’s tax time. I have noticed, not only because of the endless emails I receive reminding me of this grand celebration, but also because of the people with whom I interact. As those I know complete their tax returns, I observe their pure joy as they realize they’ll be receiving a refund from the IRS.

Count me in with the masses; my accountant suggested some changes to my tax returns for the past couple of years, and I received several refunds I otherwise wouldn’t have expected. I exuded an appropriate level of joyfulness, as well.

Most people’s tax situations are much simpler than mine. For example, a single guy might work for only one employer, receive one W-2 form, and won’t have much un-withheld income. He will probably receive a small refund. Or a family receives two W-2 forms and, because they didn’t calculate their withholding correctly, they’ll receive a large refund. Cue cheers of joy!

Except, the federal government should be the one celebrating. They’ve been using “our” money — money belonging to those of us who are due a refund — for free! Usually, when you lend money to someone, you charge interest to compensate yourself for its use. Why would you give the government, an organization that will use your money in ways you may not approve, a free ride?

The most common explanation — or rationalization — for not being concerned with lending money to the government for free is simple. It’s because this creates “forced savings.” By having more money than necessary withdrawn from each paycheck, you are automatically putting some money aside for later. You’re just counting on the government to pay you back on time, of course (and without interest).

It might be a good idea to note that some state governments are not issuing refunds on time. The states’ financial difficulties will become your financial difficulties when they delay sending you the “savings” you’ve been counting on.

Even if your return arrives lightning quick and without problem, it’s still a ridiculous situation. But, most of us stand for it, year after year. Why don’t we break the cycle of free loans to the government, then strange joy when our money is returned?

Let’s start with the typical rationale. Here’s why “forced savings” is a poor excuse:

  • You are not earning interest. In a high-yield bank account like Barclays, the money could earn interest. If you hand excess money to the government each pay period, the government gets to keep any interest it could be earning. You might as well throw money out the window.
  • You don’t have use of the money. The average tax refund, for those who receive one, is almost $3,000. You could have used that money to pay off your debt, repair your house, or invest for your retirement.
  • Saving yourself isn’t difficult. Don’t rely on the government for a savings plan. You can automatically transfer a portion of your paycheck into a savings account, and not even think about it (essentially, the same thing you’re already doing). When you re-calculate your withholding and change the form with your employer, set up direct deposit so you receive your pay directly in your bank account. Then, set up an automated recurring transfer to move a portion of your pay into a savings account that’s earning interest.
  • It’s easy to treat a refund wrong. Receiving a large check from the government encourages people to make unnecessary or unplanned purchases. While that might be great for the economy in general, you might be making choices you wouldn’t have been if that money was spread out over the course of the year. If it were incorporated into your weekly or biweekly income, you would be more apt to budget it wisely.

The federal government counts on millions of citizens overpaying their taxes throughout the year. In fact, if everyone optimized their withholding, the government might not be able to pay for its day-to-day operations. But you don’t need to worry about what the government will do in that situation. The best decision for your financial health is to optimize your withholding so you do not receive a substantial refund.

In fact, you should consider planning your withholding so you owe the government when you file your taxes. In this scenario, all the drawbacks mentioned above become your advantages. You’ve had access to government money throughout the year. As long as you stay within limits, you won’t owe the government any interest or fees. You can even earn interest or invest the government’s money, tucking that cash into an interest bearing account, ready to pay your tax bill when it comes due.

Of course, be sure to keep track of approximately how much you’ll owe, and never put yourself in a situation where you cannot pay your tax bill by the deadline in April. If you’re going to avoid a tax refund, you need to be smart and not create a bigger issue. But, as long as you can pay your bill by April 15 (or April 18, as it is this year), the government doesn’t care what you do.

Article comments

DrPlantain says:

Late to this post but I have a question, how can I make sure I don’t send extra payments to the government? Do I just go exempt for the whole year? Or would I have other ways to go around this?

Giang Ngo says:

Having too much withheld money is not good either. They are basically borrowing money from you without paying you any interest. Remember that tax return is your money that they are returning to you, not something they give you for free. Try to keep it as close to 0 as possible!

Joanne Mahoney says:

My husband and I have tried most years to “zero” out. You are right, would you loan a complete stranger an interest free loan? I wouldn’t.

We have friends that don’t care, they love the fact that they are getting a large check at the end of the year. I don’t get it.

Anonymous says:

I used to get a few hundred back. I never tried to ‘work the system’ or fix my return to allow me to receive more of a refund. Many of my friends got in trouble that way and got audited.
I’m excited if I get anything back these days.

Anonymous says:

Since I’ve both owed a bit of money and received a fairly large refund in previous tax years, I’m a bit torn on this issue.

I don’t like to owe money at tax time, because I don’t like sending the IRS money. I know that technically, I had the use of their money throughout the year. But for some reason, the act of having to pay money to somebody, or anybody for that matter, hurts a bit. Maybe it’s a mental issue. I’m no psychology expert, so I dunno.

On the other hand, I don’t like receiving a large refund either, because I do understand that the government has been using my money without giving me any interest.

So it’s really not an easy choice to make for me. If I had to choose one, ideally I guess I’d like to owe just a few bucks to them!

Anonymous says:

A lot of you are missing the fact that it’s not necessarily a 1% (or similarly low) return from saving the money you get back. If you have any debt and would use that money to make early payments to the debt, you are getting a substantially higher return.

Anonymous says:

This will never happen, but I think it would be real interesting if no one’s tax was withheld throughout the year and we all had to stroke a check on April 15th for the tax owed. I bet a lot more people would think a little more about what they are sending to the government and how they are spending it (not to mention what they are borrowing to spend even more).

That being said, I am in the “get it as close as you can” camp. I have not done real well with that though. 2 years ago we owed 6k, last year broke even within a few hundred dollars, and this year got 5k back.

Anonymous says:

I would much rather owe a couple hundred dollars instead of giving them a free loan throughout the year. I’ve got it down to a science and this year, I only owed $12.

Alex says:

Explain how please? This was the first year I owed and what this article is saying makes a lot of sense. How do I even begin to set things up so that I can take full advantage of my money and not owe so much for the year?

Anonymous says:

I prefer a very small refund. Less than $50. So I don’t have to mess up my budget with a check to the feds, but I don’t like to get back too much for the reasons already listed.

Anonymous says:

First year… I get minimal back from federal and owe state. It’s just about a $0 balance year for me. Couple hundred back in my pocket. Don’t want to owe.

So this year, I increased my 403(b) contributions. Hoping it will offset any potential future ‘owe’. And it might help considering my husband is working tons of OT this year.

BTW, will u readd my pending FB status. Love the profile pic. 😉

Anonymous says:

As a small business owner I’m always happy if I end up owing just a bit. It’s hard to pay estimated quarterly taxes and end up break even everytime but I get close. I can’t imagine letting the government sit on a bunch of my money every single year.

Anonymous says:

Frankly, I don’t make enough at the moment for that hypothetical interest to be meaningful. $7? I’d rather lose that $7 in interest than risk underpaying, especially since I have variable freelance income on top of wage income. I don’t think the lost interest income is a meaningful consideration for most people, who don’t make much money.

Luke Landes says:

If we’re talking a few hundred dollars overpaid or underpaid, then it doesn’t matter, but if you overpay your taxes by thousands of dollars, you’re doing yourself a disservice, even if you wouldn’t be earning interest at all. It’s you money, and you should use it or save it how you please at the time you earn it. If you freelance and don’t earn consistent amounts on a consistent basis, that’s a good excuse for not being able to fully plan for taxes, but otherwise, with a consistent income there is no good reason to give the IRS more than necessary.

Anonymous says:

I prefer to get a small refund. I wouldn’t mind owing a small amount but I find it too difficult to fine tune the withholding to owe a little but not too much. Especially since my income is rising and my deductions are falling.

Anonymous says:

Ideally I would owe $999 or whatever other amount is the max I can owe without paying a penalty.

The reality is, trying to hit $999 runs a definite risk of under-withholding. I run the W-4 calculator multiple times per year and it always tells me different things and it never comes out right at the end of the year. So I just aim for $0 and if I get a refund, fine, and if I owe, even better (as long as I don’t owe that penalty.)

One year I was over the penalty line by $20. What’s annoying is that, as I understand it: whether or not you owe a penalty is a binary decision based on the safe harbor rules; but if you do owe a penalty, it seems to be calculated on the whole owed amount. Luckily when it happened I checked a box “have the IRS figure the penalty for you,” and they never got back to me.

Anonymous says:

I am actually only getting a small refund (less than $50) so I guess I am in the middle, but leaning more towards getting a refund.

I do not like to owe taxes because it means that is an unplanned expense I have to cater for and that seriously depletes my mental reserves. On the other hand I do not want to get a big refund because I would rather use my money to pay off debt or earn interest than have it floating out to the government coffers.

Anonymous says:

If I hit it within $1-200 either way, I feel pretty good about it. We started having a CPA do our taxes several years ago, and that’s been a great move for us, especially after two years in a row getting audited. We were not trying to dodge paying our taxes or anything, but some form or another got messed up or had the wrong tick box checked and the IRS sent us a thick envelope saying we owed $15K. TurboTax didns’t catch anything, either. So we hired a pro, who knew all the right forms and exactly what was mis-filed and so on, and it was money well spent to get that matter cleared up. It’s kind of like hiring any other skilled professional or tradesman when you know you are in well over your head.

I get more concerned with the enormously complex US tax code. I wish that it were simplified into another method (national sales tax, flat tax, VAT, etc) so that a lot of the mystery with filing taxes was removed. There are plenty of examples from other countries that employ similar methods to see that they can be made to work, and fund the things we expect to have in a first-world country. Nobody likes paying taxes, but I do like roads, schools, police, firefighters, military, bureaus of weight and measurement and the many other things we take for granted here in the US and that they don’t have in say, Somalia.

Anonymous says:

I agree with the simplification of the tax code, although I’d probably be out of a job lol. The problem with some of those options (nat’l sales tax/vat/etc) is that it is unlikely that they will replace our system, but rather just add to it.

On another different note, we may have roads and schools but Somalia has pirates…just sayin’

Anonymous says:

Evan –
I have always told my husband, they will never go to a flat tax or something easy, simply because the IRS is huge and all the accounting firms, tax firms, H&RBlocks’ of the country would all lose their jobs! Not to mention the banking, insurance and financial industries who get a major part of their income from designing and administering “tax-free or tax-deferred” products.

I am curious to know how many people/industries would be affected if we abolished the tax code completely and implemented a flat tax. Maybe if not too many are affected, it would be well worth it to the rest of us for the sake of simplicity and fairness. Again, it will never happen, but…..we thought America couldn’t be highjacked by socialists either – you never know. LOL

Anonymous says:

You always want to owe some, but not enough to get fined.

Anonymous says:

I see both sides of the argument, so I’m sitting on the fence. But now that I’m a homeowner, I’d rather have the money in my pocket. Unfortunately, with my supplemental freelance income, it’s hard to gauge exactly how much to withhold because the amount of money I make changes annually. So I’d rather err on the side of caution and get back a bit of a refund. I’m more apt to put a large chunk (refund) of money right into savings rather than put aside a smaller amount every paycheck.

Anonymous says:

I completely agree with Evan. The “no-interest loan to the government” arguement really isn’t that compelling. My refund is usually around $700. I’d rather get $700 at the end of the year than 13 and a half bucks each week. After all, how many people are going to take an extra $13 and apply it to paying off debt? I took my refund this year to pay for the deposit on my next apartment.

Anonymous says:

I am happy to get money back. Outside of Uncle Vito I couldn’t imagine a worse person to owe money to than the IRS. That sinking feeling when your accountant or tubo tax tells you you have to write a check for a couple grand. Even if you were to get 5K back from the gov’t and you had it from day one of the year at 1.1% that is only $55 in interest (BEFORE TAXES).

Just some thoughts

Anonymous says:

People do get better than 1.1% interest4 even now, but in other years interest has been as high as 15%/year (1980s) or 5% (2006). Assuming you can get 2% now, which you can, on $5,000, that’s $200. And I don’t think you pay federal tax on your federal refund, though you might pay state tax on it, which is much less, like 5-10%. Assume you get that $200 taxed at 10% to account for state and local taxes…

That’s still $180/year, every year, that you are giving the government for no reason at all. If that is fine for you, fine, but would you also check a box on the form that says, “Check here to give hire us as a no-services bank for $180 a year.”? Would you pay that fee for that same no-services bank for $90/year? $45? How much will you pay for the no-services bank?

Anonymous says:

I think the conversation we are talking about owing the government ANY money or getting back SOME money. The taxable part I meant was on the savings IF you were to save it all and had it ALL since Jan 1st.

I think the national average is around a grand for refund purposes which turns that $180 up there to about $20 bucks. But I am ok working with that $180 number. And the answer is yes, I’d rather risk $12 a month (the gain) just for the knowledge that I won’t have to come up with the money in April.

I think it is a rarity that someone owes exactly zero and gets back exactly zero, so if I have to give up 12 bucks a month to be on the getting back side…I’ll be there.

If these numbers were a hundred or more per month then things may change.

Anonymous says:

I prefer to owe the government. I do my best to see that it is not too much, but I don’t want the government owing me. I’m perfectly comfortable managing the household money and don’t have a problem saving to pay taxes. Money is a tool of mine, and I don’t like my tools in the wrong hands.

Anonymous says:

I would rather receive a refund! We only had $52 withheld for the whole year. Our tax refund was almost $5,000. I’ll take that ROI. I understand your point though, we could have held on to our $52 instead of the gov. keeping it interest free for the whole year. People wouldn’t mind owing money in April if they were prepared to pay up, but most people are caught off guard.

Anonymous says:

If you are expecting EIC, you can apply to get part of it throughout the year rather than waiting til tax time. This would be your version of not withholding too much. Of course, your refund might not be due to EIC. Just saying that if it is…..

Anonymous says:

How did they only withheld $52 and you still receive a refund?

Anonymous says:

I prefer to owe the government. But if you owe too much they will make you pay your taxes quarterly.

I would also prefer then not take my taxes our of my paycheck and let me pay them at tax time.