Friday, March 8, 2019

It's Not How Tall the Glass Is

Show a young child two glasses, one tall and narrow and one shorter but bigger around, and ask the child which holds more water.  He will pick the taller glass, even though the dimensions of the glasses make it obvious to an adult that the shorter one holds more.  Not until about age seven can the child start to reason and differentiate how much each holds in comparison to the other.
I thought about that when I read this week that people are complaining that their tax refunds are smaller this year in the aftermath of the income tax law changes.  “Where’s the tax decrease we were promised?” they ask. (Actually, as of this week, the IRS reports that the average refund is running about 1% higher than last year, but that doesn’t seem like a lot to someone who heard that Congress and the president were giving him a big tax break.)
Instead of looking at how much money you get back in April, it is much better to determine what you actually paid in taxes.  A big refund check looks like the tall glass does to a child: it’s more.  But does a smaller refund check mean you paid more in taxes?  No, it doesn’t.  An individual’s income and tax situation can fluctuate year to year.  Moreover, the IRS changed its withholding tables for 2018 in accordance with the lower tax rates of the new tax law.  Most people were seeing more money in their paychecks each pay period, meaning they had less withheld in taxes.  The “big refund” came to taxpayers in small doses throughout the year. 
To make an accurate comparison of taxes paid from one year to the next, divide your “total tax” (it’s line 15 on this year’s form 1040) by your adjusted gross income (AGI, line 7).  This calculation gives you the percentage of your income that you actually paid in taxes for the year.  Do the same calculation for the previous year’s taxes and compare the rates.  Actual dollar figures will vary because your income probably was different, year to year.  But comparing percentages gives you a standard by which to judge your tax burden. 
We talk about “tax rates”, but the rates that are quoted can be deceiving.  You might be told that by virtue of your income level you are in a certain tax bracket and pay a certain percentage tax rate.  But that rate is not applied to every dollar you make.  If you’ve never done the calculation I described above, I think you will be surprised at the actual percentage you pay overall.  And even if you have done this calculation before, compare the outcome for the 2018 return against the 2017 and 2016 returns.  Did the tax law change in your favor?
It’s unfortunate that people hope for a big check from the government this time of year.  What they are saying, essentially, is, “I hope I really overpaid the government a lot in 2018.”  After all, a tax refund is exactly that—a refund of the excess you paid to the government.  Why would you want to overpay and then jump through hoops just to get it back?  Would you do that with any other expense you owe?  Overpay the electric bill every month, with the promise that the utility will give it back to you next year?  I don’t think so.
Of course, the psychology of the whole thing might be, “If I spend this much time (or money) preparing my tax return, then I want a big check back in exchange for my trouble.”  I can understand that thinking.  But I prefer to see it as, “Look how close I was in estimating how much I would owe in taxes so that I could save that money throughout the year and make some interest on it.”  A different perspective, perhaps; but with more people eligible now to file without having to itemize deductions, maybe the actual filing will be easier and will lessen the demand for a huge refund.
No, actually I don’t see that happening.  Human nature doesn’t change that easily.

Until next time,


“Pay all that you owe, whether it is taxes and fees or respect and honor.” Romans 13:7 CEV