Jobless workers may face a surprise tax bill or smaller refund
With tens of millions of Americans relying on unemployment benefits during the pandemic, many may face a tax bill — or smaller refund — this season if they haven't withheld enough during the year.
Unemployment benefits are taxable and have to be reported on your 2020 taxes, both on federal and on some state returns. They are considered earned income and are taxed the same way.
Read more: Do you have to pay taxes on unemployment benefits?
“People receiving unemployment benefits are hard on cash and don't put aside the money for the unemployment income,” Lewis Taub, a certified public accountant and New York director of tax services at Berkowitz Pollack Brant Advisors, told Yahoo Money. “They do get hit unexpectedly hard when they actually have to pay their tax bill.”
Withholding taxes on your unemployment benefits is voluntary — recipients can choose to withhold a flat rate of 10% of their unemployment benefits. If they haven't chosen to withhold any tax, they'd have to pay it at once when filing their taxes. Still, even if they withhold, they may need to pay more in taxes.
Unemployment benefits are subject to income taxes, but not to payroll taxes like the paycheck from your job.
While you must pay federal income tax on your unemployment benefits, you may avoid paying state income taxes depending on where you live. Nine states — including Florida, Nevada, and Texas — don’t have income taxes, so you'd only pay federal taxes on your unemployment benefits. Additionally, California, Montana, New Jersey, Pennsylvania, Virginia, and Wisconsin exempt jobless benefits from their state income tax.
Read more: Here's how you should use your tax refund in 2021
The remaining 35 states and the District of Columbia are expected to collect a total of $12.7 billion in additional state income taxes from unemployment benefits for 2020 and through February 13, according to an analysis by the Tax Foundation. The federal government would collect $65 billion in federal income taxes for the same period.
'Still getting a refund'
Not only did millions of Americans rely on unemployment benefits last year during the pandemic, but the programs were more generous — meaning that their tax bill could be higher than usual. Access to unemployment benefits was expanded to self-employed workers and contractors under the Pandemic Unemployment Assistance (PUA) program and unemployed workers were given additional weekly benefits on top of their regular benefits at different stages in the pandemic.
Even if you received unemployment benefits, that doesn't mean you will necessarily owe the IRS. But it could mean you'll get a smaller refund than past years.
Read more: Tax tips for freelancers 2021: 12 smart ways to file
“It's still very, very early in the season for us, but what we're finding is that even people with unemployment income are still getting a refund,” Kathy Pickering, H&R Block’s chief tax officer, told Yahoo Money. “It may not be as large as they'd gotten in the prior year, but they're still getting a refund.”
People who got unemployment benefits in 2020 should have a Form 1099-G from their state to help them fill out their taxes properly. Many states don’t mail the form, so taxpayers should go to their state website to access the form.
Denitsa is a writer for Yahoo Finance and Cashay, a new personal finance website. Follow her on Twitter @denitsa_tsekova.
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