CFR > Title 26 - Internal Revenue > CHAPTER I—INTERNAL REVENUE SERVICE, DEPARTMENT OF THE TREASURY > SUBCHAPTER C—EMPLOYMENT TAXES AND COLLECTION OF INCOME TAX AT SOURCE (Parts 30–37) > PART 31—EMPLOYMENT TAXES AND COLLECTION OF INCOME TAX AT SOURCE > SUBPART E—Collection of Income Tax at Source (§31.3401(a)-1 to §31.3406(j)-1) > 31.3402(m)-1—Withholding allowances.

31.3402(m)-1—Withholding allowances.

(a) General rule. An employee may claim, with respect to wages paid after December 31, 1981, a number of withholding allowances determined in accordance with this section. In order to receive the benefit of such allowances, the employee must have in effect with his employer a withholding exemption certificate claiming such allowances.
(b) Items that may be taken into account. The following items may be taken into account in determining the number of withholding allowances an employee may claim:
(1) Estimated itemized deductions allowable under chapter 1,
(2) The estimated tax credits allowable under Subpart A of Part IV of Subchapter A of Chapter 1, except:
(i) For the credit for tax withheld on wages under section 31(a) (relating to wage withholding),
(ii) For the credit for tax withheld at source on nonresident aliens and foreign corporations and on tax-free covenant bonds under section 32 ,
(iii) That the employee may claim the credit for certain uses of gasoline and special fuels under section 39 only to the extent the employee has not filed for a quarterly tax refund of the credit on Form 843,
(iv) That the employee may claim the credit for earned income under section 43 only to the extent the employee has not filed for advance payments of the credit on Form W-5, and
(v) For the credit for overpayment of tax under section 45 ,
(3) The estimated trade and business deductions of employees described in section 62 (2) and allowed by Part VI of Subchapter B of Chapter 1,
(4) The estimated deduction for payments to pension, profit-sharing, annuity, and bond purchase plans of self-employed individuals described in section 62(7) and allowed by section 404 and section 405(c) ,
(5) The estimated deduction for penalties forfeited because of premature withdrawal of funds from time savings accounts or deposits described in section 62(12) and allowed by section 165 ,
(6) The estimated direct charitable deduction under section 170(i) ,
(7) The estimated deduction for net operating loss carryovers under section 172 ,
(8) The estimated deduction for alimony, etc., payments under section 215 ,
(9) The estimated deduction for moving expenses under section 217 but only to the extent that the amount of such deduction is not excluded from the definition of wages by section 3401(a)(15) ,
(10) The estimated deduction for certain retirement savings under section 219 but only to the extent that the amount of such deduction is not excluded from the definition of wages by section 3401(a)(12)(D) ,
(11) The estimated deduction for two-earner married couples under section 221 ,
(12) The estimated net losses from schedules C (Profit or (Loss) From Business or Profession), D (Capital Gains and Losses), E (Supplemental Income Schedule), and F (Farm Income and Expenses) of Form 1040 and from the last line of Part II of Form 4797 (Supplemental Schedule of Gains and Losses),
(13) The estimated amount of decrease of tax due attributable to income averaging under sections 1301 through 1305.

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The employee must first use these items ((1) through (13) of this paragraph (b)) to eliminate any payment of estimated tax (as defined in section 6015(d)). Only amounts of these items remaining after the employee has done this may be taken into account in determining the number of withholding allowances the employee may claim.
(c) Definitions— (1) Estimated. The term “estimated” as used in this section to modify the terms “deduction”, “deductions”, “credits”, “losses”, and “amount of decrease” means with respect to an employee the aggregate dollar amount of a particular item that the employee reasonably expects will be allowable to him for the estimation year under the section of the Code specified for each item. In no event shall that amount exceed the sum of:
(i) The amount shown for that particular item on the income tax return that the employee has filed for the taxable year preceding the estimation year (or, if such return has not yet been filed, then the income tax return that the employee filed for the taxable year preceding such year), which amount the employee also reasonably expects to show on the income tax return for the estimation year, plus
(ii) The determinable additional amounts for each item for the estimation year.

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The determinable additional amounts are amounts that are not included in paragraph (c)(1)(i) of this section and that are demonstrably attributable to indentifiable events during the estimation year or the preceding year. Amounts are demonstrably attributable to identifiable events if they relate to payments already made during the estimation year, to binding obligations to make payments (including the payment of taxes) during the year, and to other transactions or occurrences, the implementation of which has begun and is verifiable at the time the employee files a withholding exemption certificate claiming withholding allowances relating thereto. The estimation year is the taxable year including the day on which the employee files the withholding exemption certificate with his employer, except that if the employee files the withholding exemption certificate with his employer and specifies on the certificate that the certificate is not to take effect until a specified future date, the estimation year shall be the taxable year including that specified future date. It is not reasonable for an employee to include in his or her withholding computation for the estimation year any amount that is shown for a particular item on the income tax return that the employee has filed for the taxable year
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preceding the estimation year (or, if such return has not yet been filed, then the income tax return that the employee filed for the taxable year preceding such year) and that has been disallowed by the Service as part of a proposed adjustment described in § 601.103(b) (relating to examination and determination of tax liability) and § 601.105(b) (relating to examination of returns).
(2) Amount of decrease of tax due. The term “amount of decrease of tax due” as used in paragraph (b)(13) of this section means:
(i) The amount of tax that the taxpayer would owe on his taxable income without using Schedule G (Form 1040), minus
(ii) The amount of tax that the taxpayer would owe on his taxable income using Schedule G (Form 1040).
(3) Itemized deductions. The term “itemized deductions” as used in paragraph (b)(1) of this section has the same meaning as ascribed thereto by section 63(f) and the regulations thereunder.
(d) Computing allowances. (1) The employee shall compute the number of allowances he may claim for the items specified in paragraph (b) of this section in accordance with the tables and instructions on Form W-4.
(2) If the employee:
(i) Pays or accrues amounts demonstrably attributable to identifiable events (as defined in paragraph (c)(1) of this section) that are:
(A) Interest attributable to ownership of real property and deductible under section 163(a), or
(B) Taxes deductible under section 164(a)(1), or
(C) Interest or taxes deductible under section 216(a), and
(ii) Is obligated to pay or accrue such amounts for at least 2 years subsequent to the estimation year,

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then the employee may compute the portion of estimated itemized deductions attributable to such amounts for purposes of paragraph (b)(1) of this section by multiplying the total of such amounts to be paid or accrued in the estimation year by 12 and by then dividing that result by the number of months from the 1st month in the estimation year in which the employee pays or accrues such amounts through the last month of the estimation year. If such amounts decrease during the term of obligation, the employee must, at the beginning of each subsequent calendar year, recompute the number of allowances being claimed as required by paragraph (c)(1) of this section. If the employee uses the computation described in this subparagraph (2), the employee may not request that his employer withhold on the basis of the employee's cumulative wages as provided in § 31.3402 (h)(3) -1.
(e) Examples. The application of this section may be illustrated by the following examples:

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Example 1. Employee A has an estimated net loss from a partnership of $2,000 which would be reported on Schedule E. Employee A is not required to make any payments of estimated tax. Employee A may take her $2,000 partnership loss into consideration in determining the number of withholding allowances to which she is entitled in accordance with the tables and instructions on Form W-4.

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Example 2. Employee B has an estimated net loss from a business of $3,000 which would be reported on Schedule C. Employee B would also otherwise be required to make payments of estimated tax on income of $3,000. Employee B may not take his business loss into consideration in determining the number of withholding allowances to which he is entitled in accordance with the tables and instructions on Form W-4.

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Example 3. Employee C has an estimated net loss from a farm of $5,000 which would be reported on Schedule F. Employee C would also otherwise be required to make payments of estimated tax on income of $4,000. Employee C may only take her farm loss into consideration to the extent of $1,000 ($5,000-4,000) in determining the number of withholding allowances to which she is entitled in accordance with the tables and instructions on Form W-4.
(f) Special rules— (1) Married individuals. Except as provided in subdivision (ii) of this subparagraph, a husband and wife shall determine the number of withholding allowances to which they are entitled under section 3402(m) on the basis of their combined wages and allowable items. The withholding allowances to which a husband and wife are entitled may be claimed by the husband, by the wife, or they may be allocated between them. However, they may not both have withholding exemption certificates in effect claiming the same withholding allowance.
(ii) If a husband and wife filed separate income tax returns for the taxable year preceding the estimation year and reasonably expect to file separate returns for the estimation year, the husband and wife shall determine the number of withholding exemptions to which they are entitled under section 3402(m) on the basis of their individual wages and allowable items, and they shall be considered to be single for purposes of the tables on Form W-4.
(2) Only one certificate to be in effect. An employee who is entitled to one or more withholding allowances under section 3402(m) and who has, at the same time, two or more employers, may claim such withholding allowance or allowances with only one of his employers.

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(Secs. 3402(i) and (m) and 7805 of the Internal Revenue Code of 1954 ( 26 U.S.C. 3402 (i) and (m), 95 Stat. 172, 184; 26 U.S.C. 7805, 68A Stat. 917))

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[T.D. 7915, 48 FR 44075, Sept. 27, 1983]