A Quick Guide To Tax Refunds – Why File For Returns After All?

Tax Refunds

If you want an excuse to celebrate apart from the holiday season, the tax season gives you one as well. Tax Refunds!

Yes, the tax season can be stressful, but it can also be rewarding.

What are tax refunds?

Let’s say you paid an excess amount to the IRS as tax.

The reimbursement of that excess amount paid to the federal or state government is a tax refund. It may seem like a bonus, but it is essentially your own money that was with the tax authorities.

A tax refund is different from a tax rebate. Like a refund, it also reduces the tax liability. But, a tax rebate is an amount you do not have to pay, and a tax refund is an amount you get from the government.

What are some reasons for getting a Tax Refund?

  1. Information in W-4 – One of the reasons for getting a tax refund is if the employee forms are filled incorrectly.

Tax refunds are exciting since you suddenly have access to a lump sum. But they happen when you pay more tax by mistake. This mistake usually happens when you do not fill out employee tax forms correctly. So, one way to avoid tax refunds entirely is to make sure that you have filled out your employee forms correctly. Some believe that it is better to pay more taxes at first and get a refund later than to pay a possibly smaller amount first and owe more money later. Both have their own concerns.

The first option leads to you having lesser money in your pocket through the year, and the second option can catch you by surprise if you don’t have enough to pay the money you owe. You can decide which end of the spectrum you fall on and make choices accordingly.

Form W-4 determines how much income the employer needs to withhold and divert to the IRS. It is advisable to fill a new W-4 every year or at least when you change jobs, get married, or have a child.

The W-4 could also be deliberately filled out to withhold a higher amount and get a large refund after tax filing season. So a W-4 can be modified according to whether you want a refund or not.

If you are a freelancer or are self-employed, you may have overpaid to avoid sudden tax bills or penalties at the last moment.

  1. Refundable tax credits – This category of credits can help offset your tax liability to $0 and can take it even lower. If it goes lower, then the IRS owes you money and gives you a refund.

Refundable credits often come with a lot of qualifications, terms and conditions, which may include income level, number of children, occupation, and many more.

  • Child Tax Credit – For the tax year 2021, the credit was increased to $3,000 for children from the age of 6 to 17, and $3,600 for those under 6. Earlier this credit was partially-refundable, but it has since been made fully refundable. So you might get a refund if you are eligible for the CTC
  • Earned Income Tax Credit – The theory is that the lesser the income, the higher the credit. It is a refundable tax credit for low- and middle-income workers. For the tax year of 2021, the EITC ranges from $1,502 to $6,728 depending on tax-filing status, income, and the number of children. Even people without children are eligible for this type of credit. The earned income needs to include wages, salary, tips, and other taxable income from the employer and needs to fall below a certain limit. Keep an eye on the limits and credits available as they will not carry forward to the 2022 tax year.
  • Premium Tax credit – This also applies to low- and moderate-income families and subsidizes the purchase of health plans offered by the state and federal governments. However, it is applicable only to married individuals who file jointly and single filers. Married individuals filing separately are not eligible for this and hence will not get a refund under this category.
  • American Opportunity Tax Credit – It is a tax credit for students involved in education programs after high school. If you are a student and you want to claim this credit on your return, you must be enrolled in an eligible educational program at least on a part-time basis and for one semester/trimester/quarter in that tax year. The eligible educational program need not be a university or a college; it can also be a post-secondary school that meets the requirements of the U.S Department of Education financial program. Credit can be claimed for tuition fees, books, supplies, and equipment. Boarding/rooming, transportation and healthcare are not included. Your MAGI should be less than or equal to $80,000 if you are a single filer, and $160,000 if you’re married filing jointly

How does this process work?

The process starts with you filing your tax returns. Once your tax return is filed and processed by the IRS, you should get your refund within 3-4 weeks. The variable factor here is the processing time and it depends on the way you filed your returns.

If you filed the returns electronically, then the refunds are sent out in less than 21 days. But if you filed them on paper, it could take anywhere from 6 to 8 weeks. The refund could be issued as paper checks or they could go directly to your savings account or retirement account. So, if you want your refunds quickly, e-file them and opt for a direct deposit into your account. The total time in such a case would be 26 days i.e. 21 days for the IRS and 5 days for the bank. The direct deposit will be listed as IRS TREAS 310 in your transactions. An IRS TREAS 449 means that your refund has been offset by a delinquent debt.

If you are claiming Earned Income Tax Credit and Child Tax Credit, then your refund will arrive only in March regardless of how you filed them.

Due to the pandemic, the IRS claims that the time taken to process the returns has slowed by a bit. As a result, refunds could also be delayed. Delays could also be due to filing errors. In such cases, it is better that you address them as quickly and as accurately as possible to avoid further delays. So it is better to not rely on refunds to make any future payments as sometimes delayed payments are inevitable and unavoidable.

At times, you may get a bigger amount or a lesser amount too. Make sure you cross-check with your forms and the IRS tracker tools.

How will I receive my tax refunds?

As mentioned above, you can get your refund by a direct deposit to your savings account or a retirement account. If you do not have a U.S bank account, then you need to opt for receiving refunds through checks.

Make sure your name and mailing address are correct in your Form 1040. If you have changed locations, then be sure to update the address using Form 8822.

If you are a US resident or a green card holder who happens to be living abroad or travelling, then  you will need to register with the State Department’s Smart Traveler Enrollment Program (STEP) and provide the government with your latest contact information like address, phone number, e-mail address

What are the types of refunds?

Apart from getting a direct deposit and receiving a paper check, you can opt for one of the following methods too –

  1. Treasury direct – Your refund will be deposited into a Treasury Direct online account that will enable you to buy U.S treasury marketable securities and savings bonds. All you need to do is provide Treasury Direct’s routing number and your Treasury Direct account number in the refund instructions on the tax return.
  2. Individual Retirement account – You can directly deposit a part or your entire refund into your IRA. Your IRA can be a traditional IRA, Roth IRA, or a SEP-IRA, but not a SIMPLE IRA.
  3. Savings Bond – You can buy a US Series I Savings Bond using a part of your refund or your entire refund. You can buy it for yourself or anyone else. These are low-risk bonds and their value can grow over the next 30 years. They earn interest and can protect you from inflation surges. The interest is, however, subject to tax at the time of redemption. In a given calendar year you can purchase up to $5,000 worth of these bonds. You will receive paper bonds issued in your name or whosoever’s name you elect as a primary beneficiary.
  4. Divert the refund to your Health Savings Account or your Archer Medical Savings accounts.
  5. Divert the refund to your Coverdell Education Savings Account. It is a tax-deferred trust that will help you save for your family’s future education expenses.

Apart from getting a refund, there are many deductions and credits that you as a taxpayer can claim to reduce your tax liability. Work with a tax professional to figure out your filing status, and get some last moment tax tips to get maximum savings and benefits.