Withholding Allowances: Are They Still Used on IRS Form W-4?
The IRS changed the way tax withholding is calculated in 2020, but you might be surprised by what happened to withholding allowances.
Key Takeaways
- Employees are no longer required to claim withholding allowances on IRS Form W-4. Prior to 2020, workers claimed allowances on the form to determine tax withholdings from their paycheck. Each allowance reduced the amount of money withheld for taxes.
- Withholding allowances were based on personal and dependent exemptions. However, the Tax Cuts and Jobs Act of 2017 set the personal and dependent exemption amounts to $0 from 2018 to 2025, prompting a need to revise the W-4 form.
- The revised Form W-4 is aligned with the current tax system and has been simplified to enhance accuracy and transparency. When filling out the form, employees go through a five-step process covering personal information, multiple jobs, working spouses, tax credits, adjustments for non-wage income, itemized deductions, extra withholding, and the employee’s signature.
- A new W-4 form is generally required upon starting a new job. Employees don’t have to submit a new form each year after that, but you may choose to submit a revised form whenever you want to adjust your withholding such as after a significant personal or financial change.
If you’re starting a new job or want to adjust your tax withholding, you’ll have to complete IRS Form W-4. That’s the form used by your employer to calculate the amount of federal income tax to take out of your paycheck.
But if it’s been a while since you last filled out a W-4 form, you might be surprised to learn that there’s no longer a line asking how many “allowances” you wanted to claim. That line was always a head scratcher, since many people didn’t know what a withholding allowance was or how many of them they should claim. So, the old W-4 form in place before 2020 probably won’t be missed.
Nevertheless, many people still want to know about withholding allowances. Perhaps you simply want a better understanding of how your current withholding was calculated using the pre-2020 form. Maybe you’re just curious about why the form was changed. Whatever your reason for wanting to know more about withholding allowances, here’s some background information that hopefully will help.
What are withholding allowances?
Before 2020, you had to claim a certain number of withholding allowances on Form W-4 (you could pick zero). The amount of federal income tax withheld from your paycheck was then based on how many allowances you claimed.
Basically, a withholding allowance is an exemption from tax for a portion of your wages. So, the more allowances you claimed, the less your employer withheld for taxes. (And, of course, fewer allowances translated into more withholding.)
You could claim fewer allowances than what you were entitled to if you wanted to increase your withholding, but you couldn’t claim more allowances.
How did withholding allowances work?
The number of allowances you could claim before 2020 was based on:
- your filing status
- how many jobs you had
- which tax credits you expected to claim for the year (including the child tax credit and credit for other dependents)
- what itemized deductions, adjustments, and nonwage income (such as taxable interest or dividends) you expected to have for the year
The old Form W-4 instructions contained worksheets to help you determine how many withholding allowances you could claim. The goal was to select the number of allowances that would result in total withholding for the year being as close as possible to your tax liability for the year. That way, if you followed the worksheets, the tax refund or the amount you owed on your next tax return would be relatively close to $0.
The Personal Allowances Worksheet had to be completed first. This worksheet was used to calculate allowances based on your filing status, number of jobs, and expected tax credits. To convert certain tax credits to allowances, Worksheet 1-6 in IRS Publication 505 was used. You only had to fill out the Personal Allowances Worksheet if your tax situation was fairly simple.
If your tax situation was more complicated, you could also complete the Deductions, Adjustments, and Additional Income Worksheet to increase the number of withholding allowances allowed. This worksheet was helpful if you planned to itemize or claim any adjustments to income, the qualified business income deduction, or any additional Standard Deduction for age or blindness.
You could also use the Deductions, Adjustments, and Additional Income Worksheet if you expected a large amount of taxable non-wage income that wasn’t otherwise subject to withholding, such as interest, dividends, rental income, capital gains, gambling winnings, and the like. That way, you could withhold tax for these items throughout the year through payroll withholding, instead of having to make estimated tax payments for them.
The final worksheet in the old W-4 instructions – the Two-Earners/Multiple Jobs Worksheet – could be used to refine your withholding if:
- you had more than one job at a time
- both you and your spouse worked, and you filed a joint return
A few other worksheets were available in Publication 505 to help certain workers calculate the number of withholding allowances permitted. However, most employees didn’t need to use them. Other methods of determining your maximum number of allowances were also allowed such as using the IRS withholding calculator. However, no matter how you determined the number of allowances to claim, you still had to file a Form W-4 with your employer.
Why aren’t withholding allowances used anymore?
Under the old system for calculating tax withholding, the value of an allowance was based on the amount of personal and dependent exemptions. However, the Tax Cuts and Jobs Act of 2017 suspended use of these exemptions from 2018 to 2025 (they’re technically reduced to $0 for those tax years).
As a result, there was a disconnect between the tax owed when filing a tax return and the amount withheld for many taxpayers. So, starting in 2020, the IRS revised Form W-4 to align the tax withholding calculation with the tax system currently in place.
According to the IRS, the changes also increased transparency, simplicity, and accuracy of the W-4 form. This is accomplished in part by replacing most of the old worksheets with revised worksheets and new tables.
How is tax withholding calculated now?
While the new W-4 form is longer, it’s generally easier to complete. There’s a five-step process for completing the current Form W-4, but all five steps aren’t necessarily required for all people.
Step 1 – Enter Personal Information. The first step is to provide personal information, such as your name, address, and Social Security number. You also need to provide your anticipated filing status, which will determine the Standard Deduction and tax rates used to calculate your withholding.
Step 2 – Multiple Jobs or Spouse Works. You only need to complete Step 2 if you hold more than one job at a time, or file jointly and your spouse also works. Your withholding is based on income from all of these jobs.
There are three different ways to complete Step 2.
- You can use the IRS’s withholding estimator (use this option if you or your spouse have self-employment income).
- You can use the Multiple Jobs Worksheet in the Form W-4 instructions.
- If there are only a total of two jobs to consider, you can have the Standard Deduction and tax brackets cut in half for each job to calculate your withholding (recommended if the pay for both jobs is similar).
Step 3 – Claim Dependent and Other Credits. Use this step to provide information about the child tax credit, credit for other dependents, or other tax credits that you expect to claim when you file your tax return. Adding credits will reduce your withholding, since your expected tax liability for the year will be lower.
Step 4 – Other Adjustments. This step is only used if you:
- have taxable non-wage income such as interest, dividends, or capital gains for which you would like to have taxes withheld from your paycheck, so you don’t have to make estimated tax payments for that income
- expect to claim deductions (other than the Standard Deduction) and want to reduce your withholding to account for the deductions
- want additional tax to be withheld from your paycheck each pay period including any amount from the Multiple Jobs Worksheet.
TurboTax Tip:
If you have more than one job, only complete Step 3 and the portions of Step 4 covering non-wage income and expected deductions on the W-4 form for the highest paying job rather than on all of your W-4 forms. That will help improve the accuracy of your overall withholding.
Step 5 – Signature and Date. Every worker must sign and date the W-4 form.
You can use TurboTax’s handy W-4 Withholding Calculator for help with Steps 2 to 4.
Your employer will use the information provided on your Form W-4 to calculate the amount of tax to withhold from your wages. It’s important to be as accurate as possible so the right amount of tax is taken out of your paycheck.
When is Form W-4 required?
The only time you really need to file a W-4 form is when you start a new job. If you don't give your employer a Form W-4 when you start, your withholding will be calculated as if your filing status for Step 1 is single or married filing separately, and as if you didn’t include anything for Steps 2 to 4.
You don’t have to give your boss a new W-4 form every year. However, you can submit a new form any time you want to adjust your withholding.
Should you adjust your tax withholding with a new Form W-4?
Just because you can submit a new W-4 form to adjust your withholding, it’s not always easy to know when that’s actually a good idea. So, here are a few good reasons to adjust your W-4 withholding.
You paid a large tax bill with your most recent return. If too little tax is withheld, you’ll generally owe tax when you file your tax return. Having to pay a big tax bill when you file your tax return is a sign that you need to increase your withholding. You can even be hit with an IRS penalty if withholding is too far below the required amount.
You got a big tax refund from your last return. If too much tax is withheld, you’ll generally get a tax refund. While that might sound nice, getting a refund effectively means you gave the government an interest-free loan each pay period. If your refund is big, then you may want to decrease your withholding to bring your next refund down a bit.
You start a side job. You should consider submitting a new W-4 form if you start a side gig as an independent contractor and you won’t have taxes withheld from the second job’s income. By submitting a new W-4 form and including the side job’s income, withholding from your primary job’s paycheck will increase to cover the taxes owed for your second income. Otherwise, you’ll have to make estimated tax payments to cover your second job’s income.
Your spouse gets a job or changes jobs. Since your overall household income is an important component of your tax withholding calculation, you might want to submit a new Form W-4 if your spouse gets a job or switches jobs. This is especially true if it results in a major change to your overall household income.
Your filing status changes. If you get married or divorced, your filing status will change. Since your withholding amount is based on your filing status, you should submit a new W-4 form if it changes because of marriage, separation, divorce, or any other reason.
You have or adopt a child. Having or adopting a child means you can claim the child tax credit for your new son or daughter. That will reduce your tax liability. By submitting a new Form W-4, you can reduce your withholding to account for the additional credit. And if you previously filed as Single, you might be eligible to file as Head of Household.
Are you exempt from tax withholding?
You’re exemption from withholding for the year if you both:
- had no federal income tax liability last year
- expect to have no federal income tax liability this year
If that’s the case, you can avoid tax withholding from your paycheck altogether.
However, you still have to file Form W-4 to claim the exemption. In that case, write “Exempt” on Form W-4 in the space below Step 4(c) and complete Steps 1(a), 1(b), and 5. That’s it.
Also, an exemption is only good for one year. So, you have to give your employer a new W-4 form by February 15 of each year to extend your exemption.
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