Withholding on Pensions and IRAs: Forms W-4P and W-4R

In my experience, a big share of the IRS problems retirees bring me start with one quiet mistake: not enough tax was withheld. Nobody did anything wrong on purpose. The pension defaults were wrong for their situation, nobody withheld on Social Security, and a December IRA withdrawal went out at 10 percent when the real rate was much higher.

A balance due is not a crisis on its own. Repeated balances due are how retirees end up in collection. Fixing withholding prevents that.

Three kinds of retirement payments, three forms

The governing statute is IRC 3405, which treats periodic payments like wages for withholding purposes and sets the percentage rules for nonperiodic payments and eligible rollover distributions.

Form W-4P: periodic payments

Form W-4P was redesigned for 2022 to work like the employee Form W-4. It asks your filing status, lets you account for other income and multiple pensions, and lets you add extra withholding per payment. If you do not submit one, the payer withholds under the default rules in the form's instructions, which for 2023 and later generally means single filing status with no adjustments.

Two common problems:

• Married couples with two pensions and Social Security. Each payer withholds as if its payment were your only income. Combined, you may land in a higher bracket than any single payer assumed. The W-4P has a section for this. Use it, or add a flat extra amount.
• Old elections that no longer fit. An election made at retirement may be wrong after a spouse dies and you file as single, or after you start Social Security or RMDs.

Form W-4R: IRA withdrawals and lump sums

For an IRA withdrawal, the default is 10 percent. That is often too little. A retiree in the 22 percent bracket who takes $20,000 with $2,000 withheld owes roughly another $2,400 in April, more if the withdrawal makes additional Social Security taxable. Form W-4R lets you choose any rate from 0 to 100 percent, and its instructions include a table of marginal rates to help you pick.

For an eligible rollover distribution from a 401(k) or other employer plan paid to you rather than directly rolled over, 20 percent is mandatory. You can elect more on Form W-4R, not less.

Required minimum distributions from IRAs are nonperiodic unless you set them up as a periodic series, so the 10 percent default applies to them too. Many retirees set a higher rate on their RMDs to cover the tax on all their income. That works well because of the rule explained below.

Form W-4V: Social Security

SSA does not withhold federal tax unless you ask. Form W-4V lets you choose 7, 10, 12, or 22 percent of each benefit payment. If up to 85 percent of your benefits are taxable under IRC 86, some withholding here is often the easiest way to keep up. See why retirees owe tax on Social Security.

The withholding timing rule that helps retirees

Here is the part most people miss. For the estimated tax penalty under IRC 6654, withholding is treated as paid in equal parts on each installment due date, unless you elect to use the actual dates. Section 6654(g) says so. Estimated tax payments, by contrast, count only when made.

So if you discover in November that you are under-withheld for the year, a large withholding from a December IRA distribution counts as if it had been paid evenly all year. That can eliminate the underpayment penalty for every quarter. A December estimated payment cannot do that. See estimated tax penalties for new retirees.

How much is enough

For penalty purposes, the target is a safe harbor in IRC 6654(d): withholding and timely estimated payments at least equal to the lesser of 90 percent of this year's tax or 100 percent of last year's tax, raised to 110 percent of last year's tax if last year's adjusted gross income was over $150,000. For most retirees with steady income, matching last year's total tax through withholding is the simplest approach. You may still owe something at filing, but it protects you from the underpayment penalty. Add up last year's total tax, divide by the number of payments left in the year, and set your elections to hit that number.

Withholding after a spouse dies

The year after a spouse's death is a classic under-withholding year. For the year of death, a surviving spouse can generally still file jointly. After that, unless a qualifying surviving spouse status applies, the filing status changes to single, the brackets narrow, and the standard deduction drops. Meanwhile, income may not fall by much, because the survivor often keeps the larger Social Security benefit and some or all of the pension. Withholding elections set years earlier for a married couple will usually fall short. Revisit every W-4P, W-4R, and W-4V election within a few months of the loss.

No state withholding in Florida

Florida has no state income tax, so Pinellas retirees do not need state withholding on pensions or IRAs. If your pension payer is in another state and is withholding state tax by default, ask the payer to stop. If you moved here from a state with an income tax, confirm you are no longer treated as a resident there for the year in question.

A simple annual check

1. Each January, add up last year's total tax from your return.
2. Add up all withholding from your SSA-1099 and every 1099-R.
3. Look for changes this year: a new RMD, a spouse's death, starting Social Security, a planned large withdrawal or Roth conversion.
4. Adjust W-4P, W-4R, or W-4V elections so total withholding covers at least the safe harbor amount under section 6654(d).

That ten-minute exercise prevents most of the problems I see.

Two illustrations

A single retiree in Seminole receives a $2,500 monthly pension and $2,100 in Social Security. She never filed a W-4P, so the pension withholds on the default single basis, and nothing is withheld from Social Security. Because a large part of her benefits are taxable under section 86, the pension withholding alone may not cover the total tax. A modest W-4V election or a small extra amount on the W-4P usually fixes it.

A married couple in Dunedin takes their RMDs each December with the 10 percent default withholding. Their combined income puts them in the 22 percent bracket. Raising the W-4R rate on the December RMD to cover the full year's shortfall uses the 6654(g) timing rule to protect them from the underpayment penalty, and it requires one form a year. The figures are illustrations; run your own numbers.

When under-withholding has already created a balance

File the return on time even if you cannot pay. The failure-to-file penalty under IRC 6651(a)(1) is ten times the monthly rate of the failure-to-pay penalty. Then set up a short-term plan or installment agreement, and fix withholding so next year does not add a second balance. Repeated balances are how an installment agreement defaults and collection escalates. If your debt has already reached the point of levy, see IRS levies on pensions and annuities.

Next step

Pull your last return and every withholding form and run the annual check above. If you owe for a prior year and are worried about collection, call (813) 229-7100. The firm's page on IRS installment agreements explains how to set up a plan you can keep.