Am I Paying Too Much in Taxes? Common Mistakes to Watch For

Many people wonder if they’re paying more in taxes than necessary, but tax laws are complex, making it easy to miss savings opportunities. Small mistakes or overlooked deductions can add up, costing hundreds or even thousands of dollars each year.

Understanding common tax missteps can help ensure you’re not overpaying.

Incorrect Tax Withholding

Many employees assume their employer withholds the correct amount of taxes, but this isn’t always the case. Withholding is based on Form W-4, and failing to update it after changes in income, marital status, or dependents can lead to over- or underpayment.

Claiming too few allowances results in excessive withholding and a smaller paycheck. While this may lead to a refund, it essentially means giving the government an interest-free loan. Conversely, claiming too many allowances can lead to under-withholding and potential penalties. The IRS provides a Tax Withholding Estimator tool to help determine the correct amount, but many don’t use it.

Self-employed individuals and gig workers face additional challenges since they must make estimated quarterly tax payments. The IRS requires these payments if an individual expects to owe at least $1,000 in taxes for the year. Failing to pay enough can result in an underpayment penalty, currently 8% as of 2024.

Overlooked Credits

Many taxpayers miss out on tax credits simply because they aren’t aware they qualify. Unlike deductions, which reduce taxable income, credits directly lower the amount of tax owed.

The Saver’s Credit, designed to encourage retirement savings, provides a credit of up to $1,000 for single filers and $2,000 for married couples contributing to a qualifying retirement account. The credit phases out based on income, with the 2024 limits set at $36,500 for single filers and $73,000 for married couples filing jointly. Many assume they only receive a tax deduction and overlook this additional benefit.

Education-related credits are also commonly missed. The American Opportunity Tax Credit (AOTC) allows eligible students to claim up to $2,500 per year for tuition and expenses during the first four years of higher education. Since 40% of the AOTC is refundable, up to $1,000 can be received even if no taxes are owed. The Lifetime Learning Credit (LLC) provides up to $2,000 per tax return for education expenses and applies to graduate courses and non-degree programs. Many mistakenly believe they can’t claim education credits if they receive financial aid, but grants and scholarships don’t necessarily disqualify them.

The Earned Income Tax Credit (EITC) is one of the most significant credits for low- to moderate-income workers, yet roughly 20% of eligible taxpayers fail to claim it. The credit amount varies based on income and dependents, with a maximum of $7,830 for families with three or more children in 2024. Even workers without children may qualify for a smaller credit. Many assume they don’t meet the requirements or fail to file because their income is too low, missing out on a substantial refund.

Mistakes in Filing Status

Choosing the wrong filing status can lead to higher tax liability or missed deductions. The IRS offers five filing statuses—Single, Married Filing Jointly, Married Filing Separately, Head of Household, and Qualifying Surviving Spouse—each with its own tax brackets and eligibility rules.

A common mistake is filing as Single when Head of Household status is available. Head of Household offers a larger standard deduction—$21,900 in 2024 compared to $13,850 for Single filers—and more favorable tax brackets. To qualify, a taxpayer must be unmarried or considered unmarried, have a qualifying dependent, and provide more than half the cost of maintaining a home. Many single parents or caregivers miss out on this status because they misunderstand the dependency requirements or fail to recognize that even a foster child may qualify.

Married taxpayers often default to filing jointly, assuming it’s always the better option. While joint filing typically results in lower tax rates and access to credits like the Earned Income Tax Credit, there are cases where filing separately is more beneficial. If one spouse has significant medical expenses, student loan payments under income-driven repayment plans, or liability concerns, filing separately may yield better financial outcomes. For example, medical expenses are only deductible if they exceed 7.5% of adjusted gross income (AGI), so a lower AGI from filing separately could make more expenses deductible. However, filing separately also disqualifies taxpayers from certain credits, including the Child and Dependent Care Credit, so the trade-offs must be carefully weighed.

A taxpayer may also qualify as a Qualifying Surviving Spouse, which allows them to use the Married Filing Jointly tax rates for up to two years after a spouse’s death if they have a dependent child. Many widows and widowers mistakenly file as Single too soon, losing tax benefits that could ease financial burdens.

Multiple Income Sources

Managing taxes becomes more complex when income comes from multiple sources, as each type of earnings may be taxed differently. Those juggling wages, freelance work, rental income, dividends, or capital gains often face unexpected tax liabilities due to miscalculations in estimated payments or misunderstanding how different income streams interact.

Investment income, including dividends and capital gains, is taxed differently based on holding periods and income levels. Long-term capital gains—on assets held for more than a year—are taxed at preferential rates of 0%, 15%, or 20%, depending on taxable income. Short-term gains, however, are taxed as ordinary income, which can push taxpayers into higher tax brackets. Qualified dividends receive similar favorable treatment, whereas non-qualified dividends are taxed at regular income rates. Failing to account for this distinction can lead to miscalculations in overall tax obligations.

Rental property owners must navigate complex rules regarding depreciation, deductible expenses, and passive activity loss limitations. Depreciation deductions, calculated using the Modified Accelerated Cost Recovery System (MACRS), allow landlords to recover the cost of residential rental properties over 27.5 years. However, improperly claiming depreciation or failing to recapture it upon sale can trigger IRS scrutiny and additional tax liability. Passive activity loss rules also limit the ability to deduct rental losses against other income unless the taxpayer actively participates in managing the property or qualifies as a real estate professional.

Employer-Provided Benefits

Many employees overlook how workplace benefits impact their tax situation, missing opportunities to lower taxable income. Employer-sponsored programs such as health insurance, retirement contributions, and fringe benefits have specific tax treatments that can reduce or increase tax liability.

Flexible Spending Accounts (FSAs) and Health Savings Accounts (HSAs) offer tax advantages for medical expenses, yet many employees fail to maximize them. Contributions to an HSA, available to those with high-deductible health plans, are tax-deductible, grow tax-free, and can be withdrawn tax-free for qualified expenses. In 2024, individuals can contribute up to $4,150, while families can contribute up to $8,300. FSAs, on the other hand, allow pre-tax contributions of up to $3,200 in 2024, but funds must generally be used within the plan year. Many employees contribute too little, missing out on tax savings, or too much, risking forfeiture of unused funds.

Stock options and restricted stock units (RSUs) can also create unexpected tax consequences. Non-qualified stock options (NSOs) are taxed at ordinary income rates when exercised, while incentive stock options (ISOs) may qualify for capital gains treatment if holding period requirements are met. RSUs, which vest over time, are taxed as ordinary income upon vesting. Employees who fail to plan for these tax implications may find themselves with an unexpected bill.

State and Local Discrepancies

Tax obligations don’t stop at the federal level—state and local taxes can vary significantly. Each state has its own tax structure, with some imposing no income tax while others have progressive or flat tax rates.

Remote workers often face complications when working for an employer based in a different state. Some states, such as New York, apply the “convenience of the employer” rule, taxing remote employees as if they were working in the employer’s state unless remote work is required. This can lead to double taxation if the employee’s home state also taxes the same income.

Local taxes, including city income taxes and property taxes, add another layer of complexity. Cities like New York, Philadelphia, and San Francisco impose additional income taxes on residents and sometimes non-residents who work within city limits. Property taxes also vary widely, with some states offering homestead exemptions or deductions that taxpayers fail to claim. Understanding these variations can prevent unnecessary overpayments.