Saturday, April 13, 2013

Don't Lend Money to the IRS; Cut Refund Fraud Risk

If you're getting a tax refund, you have given Uncle Sam an interest-free loan. Use the IRS withholding calculator to adjust your withholding so that you expect a refund of less than $100. The calculator is here: http://www.irs.gov/Individuals/IRS-Withholding-Calculator

Now open a savings account at your bank and set up an automatic transfer for the day after every payday in an amount equal to what you cut off your withholding. Your "take-home pay" will be exactly what it was before, it's just that you keep the money, not the IRS. You gain three things from doing this: 1) You start building up a cushion of cash that's available any time, not just at tax refund time. 2) You will earn a tiny bit of interest on the money you are saving. Interest rates are at historic lows, but I still earned enough to buy some tacos and a margarita. 3) You will start to consider that money as "savings," not as a windfall, and you'll be less likely to blow it on something you don't really need.


There's another reason, possibly even more important, to minimize your refund: identity theft refund fraud. The crooks get one's name and Social Security number, file an authentic-looking tax return with a bogus address, and steal your refund.  Worst of all, when you file your own, authentic refund, it's rejected.  You might even incur late filing or late payment penalties if you haven't documented carefully!  If you're getting a small refund, you've dodged any late payment penalty, and perhaps late filing penalties.  And the crooks won't get more than that hundred or so dollars.  Refund fraud through identity theft is a real threat.  The Wall Street Journal (April 13, 2013, p. A-15) says this type of fraud is up 650% since 2008.  There were over 650,000 cases outstanding in 2012, and such a case often takes six or more months to resolve.

Early every October, use the withholding calculator again to be sure you're going to get about $100 back when you file. Getting a small refund sets up a "safe harbor" in case you come into some extra money next year that causes you to have to pay Uncle instead of the reverse. (I'm not a tax lawyer, and this isn't tax advice; just common sense.)

Best of all, you can blow that $100 refund on a memorable dinner or an outstanding bottle of wine guilt-free, because most of what you would have lent Uncle interest-free is safely in your bank.