Electric vehicle tax credit- Do I stop withholding any federal tax for entire year?

[2022ev]

I see the federal tax credit for electric vehicles is non-refundable credit. So to use the maximum amount, do I need to stop paying federal taxes per paycheck and then at the end of year when filing taxes, pay the difference between "What I owe for full year" minus "Electric Car credit"? 

[GeorgeDenseff]

Nonrefundable credit means that it can reduce the total amount of tax paid for the year to zero.  Whether you have withheld tax yet does not matter.  If you do not have enough tax withheld, you can face penalties.

[VolvoGirl]

What you have for withholding doesn't matter.   You can always get that back.  It's not how much tax due you owe at the end but the Tax on your income.  

Non-Refundable Credits.   This means that it cannot be used to reduce your tax liability below zero.  If you do not have a tax liability (you need income after you take off the standard or itemized deductions and personal exemptions), you have nothing to take the credit against.  Your Federal income tax withheld is not included in the calculation of your tax liability.  

[2022ev]

Thanks VolvoGirl, This is interesting and contradicts my current understanding. Let us take an example.

Say I bought electric vehicle in Jan 2022. Assume that I paid $8000 in federal taxes for year 2022 and don't owe any additional money in federal taxes when filing tax returns for 2022. Now what happens? Do I get a $500? 

[Critter-3]

DON"T stop the withholding because you will FORGET to start them up again in January so you could be under withheld next year and wind up owing on your 2022 return. 

[2022ev]

Thanks George. I understanding was that I need to pay federal taxes in such a way that I underpay at-least $7500 so when I file tax returns then amount I owe would be equal to amount I am eligible for tax credit, isn't it? 

[Critter-3]

You are correct ... if your credit wipes out the federal tax you would own nothing so you don't need to have any withholding  however be careful to restore the withholding the following tax year so you don't owe by mistake. 

[2022ev]

Thanks Critter-3, but looks like there is a penalty if I stop paying federal taxes from paycheck to paycheck. So trying to understand if I pay full taxes and don't owe anything at the year end, then ho do I get $7500 benefit? Will IRS give me $7500 check?  

[VolvoGirl]

Check the Tax on 1040 line 16.  You can only reduce that to zero.  If your non refundable credits reduce your tax to 0 you will get back all the withholding and payments and any Refundable Credits.

If the tax on line 16 is more than your credit you still owe the difference.  So you may need to have withholding to cover the tax that is left over.   

[Critter-3]

There is no penalty for stopping withholding (do not use the exempt option to do it) but there is an under withholding penalty if you end up owing $1000 or more on the return.

[2022ev]

Thanks VolvoGirl, this is very interesting information that I will get the withholdings back if my credit amount is larger than my withholdings paid in entire year.

I was mixing this up with term "non-refundable" credit. I thought I need to reduce my withholdings by $7500 upfront. 

Do you have any reference for me to validate this information? 

[VolvoGirl]

Just follow the math on the 1040.  For a test look at your 2020 tax return and schedule 3 for the credit.  Sch 3 line 7 goes to 1040 line 20, so put the 7,500 credit on line 20.   Then work the math down the rest of the 1040.  Here is a blank 1040 to fill out with your numbers.  Start with line 16.

https://www.irs.gov/pub/irs-pdf/f1040.pdf 

Instructions  https://www.irs.gov/pub/irs-pdf/i1040gi.pdf 

Schedule 3

https://www.irs.gov/pub/irs-pdf/f1040s3.pdf 

[VolvoGirl · Accepted solution]

How much is the TAX on your income?  Line 16.  Let's say it was 8,000.   And you get the 7,500 credit.   8,000-7,500 = 500 tax left on your income. 

Then the withholding is subtracted from the 500 tax to give you a refund (or tax due).   So if your paycheck withholding is 6,000 you will get a 5,500 Refund. If your withholding is 12,000 you will get a $11,500 Refund.   So you might get back most of your withholding.

Hope that is clearer.

[2022ev]

Super. This is exactly what I was looking for. So technically I am getting refund of the extra withholdings I have paid in the year. 

Not sure why they say this is non-refundable then!?

[VolvoGirl]

Because you can't get it refunded.  It is NOT added on to your refund.  There are other Credits you can get added on top of your refund or will reduce the tax due on your return.   This one only reduces the actual tax liability on your income.   

I think you are confusing the tax on your income with the tax due.   Your Tax and Tax Liability are not the same as the bottom line Tax Due or Refund on your return.