Guest post written by Chris Shannon.
Career center staff, overwhelmed, simply told several hundred teens participating in a summer jobs program to “just put ‘Exempt’ on the W-4 withholding form” so that no taxes are taken out. When asked why, staff replied, “It’s too much effort for these students to file to get that money back; besides, they’re students.” True, they are students, but what a loss of a teachable moment, and what a shock if some of those students end up earning enough money that year to be required to pay taxes. Chances are for those students, by April 15th, those summer earnings are long gone.
According to the 2012 W-4 Form, students earning less than $8,000 are indeed “exempt” and do not pay taxes. Now, the teens in this program were able to earn a fairly good salary that summer, $10 per hour, 30 hours per week for 8 weeks. Right there, those students have earned $2,400. That leaves $5,600 before they start have to pay taxes. Divided by the other 10 months of the year, students earning as little as $560 a month (which is quite possible at 15 hours per week earning minimum wage) can find a nasty surprise waiting for them come tax time.
So, what to do? Well, it depends on your teen’s current savings and spending habits. Any financial advisor worth his or her salt will tell you to keep as much as your paycheck as you can and invest a portion so it earns money for you, rather than for Uncle Sam. [This means to put “exempt” or to claim more under “allowances” on the W-4 (“1” or “2”) and not less (“O”).] That is a great strategy, but as a teen, I know I wasn’t so great at that “saving” thing, much less that “investing” thing.
If your teen needs to learn basic savings skills, then have Uncle Sam take the maximum allowance, or “0.” The teen will be disappointed with the smaller paycheck but will quickly adjust to the pay they take home. Then, once employment W-2’s roll in the following January, sit with your teen to fill out tax forms. They may be surprised how the little taken out of their paychecks can add up when they get a refund! [This lesson will be repeated down the line when your teen is considering investing in a company retirement account. So many twentysomethings put off a retirement fund when time is their greatest asset.]
This lesson doesn’t have to be lost on teens working odd jobs, such as babysitting or lawn care, or on those who have not yet joined the workforce. Have your teen sit with you come tax time. Share your W-2 forms and explain how your choice impacted the amount of taxes taken out and how that compares to the taxes owed. Review Table 1 on the IRS W-4 worksheet. Discuss with your teen how this choice can align with their spending and savings values. And, best of all, help make this first adult financial decision an informed one.
For more information, check out the Dept. of Revenue teen video on the W-4 and the IRS W-4 Form. Bankrate.com primer “Understanding the W-4” has some good information on how to adjust your withholdings on the W-4.
About Chris Shannon: An educator for over twenty years and a mom of two young kids, Chris spends most of her time as a financial literacy consultant for rAsa consulting. Chris has developed educational materials and trainings for the National Endowment for Financial Education, the National Jump$tart Coalition, the Massachusetts Office of Consumer Affairs and Business Regulation, and many credit union organizations. She currently serves on VISA’s Educator Advisory Council.
Easy Action: Begin a money journal with your teen. Teach your teen to figure out his or her current net worth. Then, set a goal for updating this document routinely (Weekly? Monthly? What works for you?) and create a reminder system.
Resource at Your Fingertips: Check out WealthQuest for Teen’s Online Video Seminar and QuickStart Guide for a fun way for your teen to learn about saving, managing, and growing his or her money!
Remember to Pledge to teach your teen to be an excellent money manager! Vote “Yes. I will make the promise!” to let the world know that parents are doing their part to build a financially literate society!
© Your Teen’s Money Skills, Inc., 2012 All rights reserved worldwide.