Though it's a pleasant surprise when you get more money back than you expected, sometimes that joy goes away when you realize you made Uncle Sam an interest-free loan for a year. Claiming zero allowances may increase the amount you get back when you file your taxes; at the very least, it will reduce the amount you owe.
Effect of Allowances
Each allowance you claim on your W-4 decreases the amount of your paycheck that's subject to federal income tax withholding. For example, as of 2013, each allowance you claim reduces your income affected by withholding by $3,900 over the course of the entire year. If you get paid monthly, that means the portion of each paycheck hit with withholding is reduced by $325. The more allowances you claim, the less you have withheld. Obviously, the converse is also true: if you claim zero allowances, you have the maximum withheld.
Withholding Versus Refunds
More withholding can mean a bigger refund -- if you owe the same amount of tax. For example, if you have $5,000 withheld instead of $4,000, but your tax bill goes up from $3,000 to $4,000, you still get a $1,000 refund. When you change your allowances on your W-4 to zero, you increase the amount of withholding from your job, so if everything else in your life stays the same, you can expect a bigger refund. On the other hand, if you have new sources of income for the year, your refund might actually go down.
Income Without Withholding
You might not get a refund, even if you claim zero allowances, if you have other income that doesn't have taxes withheld from it. For example, when you get interest on your savings accounts or sell stocks at a profit, no taxes are withheld. However, you still owe taxes on that income. So, if the extra withholding from your job isn't enough to cover your extra taxes due, you'll still be left forking over extra cash when you file your income tax return. If you have this income and prefer to still get a refund, you usually need to make estimated tax payments during the year.
Changing Your Allowances
You can change your withholding any time your heart desires. All you have to do is fill out a new Form W-4 and give it to your employer. Then, it's up to your employer to start using the new allowances by the first payroll that ends 30 days or more after you handed in the form. For example, if you gave your employer a new W-4 on January 1, your employer must adjust your withholding by the first payroll period ending on January 31 or later.
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