When you start a new job, your employer requires you to fill out a Form W-4 telling the employer how many allowances you want to claim. However, you don't have to claim all of the allowances to which you're entitled. Just because you're eligible to claim one allowance doesn't always mean you're better off than if you claim zero.
Size of the Difference
Each allowance you claim lowers your income subject to withholding by the amount of one personal exemption over the course of the year. As of 2012, each exemption is worth $3,800. For example, if you fall in the 25 percent bracket, claiming "0" instead of "1" will mean your employer will withhold about $950 extra dollars. If you're not entitled to claim any allowances, you should claim zero, but if you're entitled to one allowance, such as if you claim yourself as a dependent or you work only one job, you have a choice.
Get Money Earlier
When you claim "1" on your W-4, you reduce the amount of income taxes withheld from your paycheck. This means you get more money each paycheck rather than waiting for your tax refund at the end of the year. Now, if you're simply thinking about the interest you'd earn if that money was sitting in your savings account, you're probably not missing out on too much if you claim one less allowance. However, the savings could start to add up if you needed that money to pay off a high-interest credit card balance during the year. For example, 1 percent interest on $1,000 is only $10, but if the credit card company charges you 25 percent interest, that $1,000 saves you $250.
If you're someone who prefers to get a larger tax refund, claiming zero is better for you. When you claim zero, you increase the amount of withholding from each paycheck so at the end of the year, you'll have paid in more than you owe (assuming you don't have other income) and you'll get the excess back as a tax refund. For example, if you want to set aside some money for a larger purchase but you know you'll spend it frivolously if you were to get it in small portions over the year, claiming fewer allowances forces you to save through the government.
If you have other income that doesn't have tax withholding, such as selling stocks or interest on your savings accounts, you might need to claim zero allowances just to avoid owing income taxes at the end of the year. For example, say you have a large money market account that pays interest and increases your taxes by $500. If you don't take that into account when filing your W-4 and claim one or more allowances, you might find yourself with a bill come April 15 rather than a refund.
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