I’m planning to claim tax exempt this year and use the extra money from pay check for investment or saving. By the year end, I will pay back the tax owned to IRS to avoid penalty (you will pay penalty and interest if you own more than 1k). Anyone has done this before? I know it’s risky but putting in saving will at least give me 2% back.
You can't wait until the end of the year. At the very least, you'd have to pay quarterly estimated taxes. Checking the "exempt" box fraudulently will get flagged, as well.
Underpayment penalty
If you owned your business, you could pay your entire estimated taxes in the 4th quarter and still be fine. As an employee, if you claim tax exempt status you are lying to your employer. And that may have consequences. Simply reduce your witholdings to 0 would be (relatively) better.
I didn’t think you can pay the quarterly estimated taxes and be good enough. They assess taxes for each quarter in the quarter they’re due. But withholding gets treated differently in that as long as your withholding is good enough for the year, you’re good. I’ve wondered if you could get away with this by changing your allowances to some really high number so your withholding is low early in the year, and then changing it to have extra withheld at the end of the year to make up for it. But then it seems like we would have heard more about this strategy so perhaps it does invite audits or the like.
I think you have a much higher chance of getting away with lying about your allowances than in falsely claiming exempt. You would end up writing them a check in April for some amount and you really better save the extra to avoid penalties and interest. The reason is they don't see the w4, only the amount withheld. If the amount withheld is zero then they obviously know what's going on. If it's non zero but wrong there could be several reasons for that: you could have gotten a big bonus, or stock grant, or had a large source of other income, that threw off the simple calculation in the w4. In that case so long as you end up paying and you don't go crazy and just put down a couple extra allowances so it's not crazily wrong they might let it slide. If they decide to investigate though a human investigator would request the w4 from your employer and see that you lied and then issue the lock in letter and likely flag you for audit.
Legally you can't, so the question is, what will happen if you try? Legally you can only do this if you got all federal tax withheld refunded in the previous year. But who verifies that? Here is my guess what happens: You claim exempt on W4 and HR questions it and asks you to verify it, which presumably you do. They will be careful to keep a record of your claim that it's correct to cover their own ass in what happens next. IRS could investigate at this point but probably won't so your exemption will take effect. However IRS computers will have flagged your file for review because it will be unusual that you are exempt after paying the previous year. When you file IRS will see that you were not really exempt and had filed a false W4 with your employer. You will have increased audit risk but if you paid up then that's ok, so long as you can withstand an audit, it's all good: no harm no foul. The next year if you try it a second time IRS will send a "lock in" letter to your employer mandating withholding at some arbitrary rate and overriding any w4 filed by you, and probably at a very conservative level you won't like much. It's POSSIBLE the IRS will send that lock in letter this year, over riding your w4, on the grounds that you paid federal tax last year and therefore do not qualify as exempt. But I suspect they are not that on the ball and the lock in will happen the second year.
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This guy taxes