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10 Things To Know Before Filing Taxes If You Collected Unemployment Last Year

The coronavirus pandemic led to unprecedented financial upheaval, with unemployment peaking at a whopping 16% in April 2020.
In response to this crisis, the federal government announced supplemental unemployment insurance payments, on top of those normally doled out by state governments. While those payments helped many Americans get through the worst of the crisis, they also created uncertainty regarding filing taxes, especially for those who were previously unaccustomed to getting unemployment benefits.
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Unemployment Benefits Are Federally Taxable
If you’re unemployed, the benefits you receive from the government might be your only lifeline until you get your next job. As such, you’re likely to spend all you receive by way of benefits for basic needs such as food and lodging.
As unfortunate as it may seem, you’ll have to set aside some of those benefits you receive and return them to the government in the form of taxes. The IRS is straightforward when it comes to this, spelling out in IRS Tax Topic 418 that “If you received unemployment compensation during the year, you must include it in gross income.”
Your Benefits Might Be Tax-Free in Your State
The news isn’t all bad when it comes to taxes and unemployment benefits. Some states, including California and New Jersey, do not tax unemployment benefits at the state level. However, many states do levy taxes on unemployment, so you’ll have to check with your state taxing authority to determine your status.
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Taxes May or May Not Be Withheld From Your Unemployment Benefits
There’s nothing worse than spending all of your unemployment benefits and realizing only after you’ve spent that money that you still owe taxes on it. The good news is that, generally speaking, federal taxes are automatically withheld from your unemployment checks.
While reducing the amount of your individual checks, you’ll be happy at tax time when you realize you already have paid your taxes — and in some cases, may have overpaid and are due a refund. However, you should verify that the proper taxes were indeed withheld from your check, as this is not always the case.
Side Income May Trigger Self-Employment Taxes
Many Americans had to pick up side work during the pandemic to get them through, as unemployment benefits aren’t always enough to pay the bills. If you fall into this category, you might have another tax surprise waiting for you.
Any type of self-employment income triggers self-employment taxes, which can be a big burden. If you’re self-employed — even if that means selling items on eBay or working as an online consultant — you’ll have to pay both the employee and the employer portions of the Social Security tax, which amounts to 15.3% of your net income. To be sure you don’t run afoul of these laws, it’s best to consult with a CPA or other tax advisor.
Your Unemployment Benefits May End Up Being Tax-Free
No one wants to have a drop in income year over year, especially when it comes in the form of unemployment. But, if you found yourself receiving unemployment benefits during the pandemic and are looking for a silver lining, it might come in the way of lower — or even nonexistent — taxes.
With a reduced income, you may have found yourself in a lower tax bracket. After all of the various credits and deductions allowed by the tax code, you may not owe any tax at all on whatever you earned last year, including your unemployment benefits. According to the Tax Policy Center, about 60.6% of households didn’t pay any income tax at all in 2020.
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You’ll Need Form 1099-G To File Your Taxes
Your unemployment payouts are tracked by the federal government and reported to you on Form 1099-G. When you file your taxes, this form provides you with the information you’ll need to transfer to your tax return. Importantly, this form also will show you how much, if any, federal income tax was withheld from your payouts.
The IRS Will Work With You If You Can’t Pay Your Taxes
If you find yourself in the position where you’re unable to pay your taxes, don’t hide from the situation, as it will only make matters worse.
The IRS understands that some taxpayers have trouble meeting their obligations, and there are a number of steps you can take to resolve your situation. One of the most common is the installment plan, where you and the IRS make a deal in which you pay back what you owe over time, plus interest.
If you simply don’t respond to the IRS, you are looking at severe penalties and potentially even criminal charges, so just face the music and work out an agreement.
Unemployment Benefits Are Not Considered Earned Income for Certain Tax Credits
Although unemployment compensation is considered income for tax purposes, it’s not counted as such for certain tax credits. To qualify for the Earned Income Tax Credit, for example, you must have earned income from a salary or wages. Unemployment benefits do not count.
This could unfortunately put you in the position of missing out on a needed credit unless you manage to pick up a side gig or other source of income.
Also See: 4 Essential Tips for Moms Re-Entering the Workforce
CARES Act Additional Unemployment Benefits Are Taxed the Same Way
In response to the severity of the pandemic, Congress passed the CARES Act. Among other actions, the CARES Act provided an additional $600 per week in unemployment compensation on top of standard benefits. For tax purposes, those additional $600 weekly payments are considered the same as standard unemployment benefits, meaning they are fully taxable.
If You’re Recently Employed, You Can Bump Up Your Withholding To Help Cover Your Taxes
Although things looked bleak at the onset of the pandemic, as of early 2022, the job market has never been better. Many employers are desperate to hire workers at higher wages, and the unemployment rate has crashed since that April 2000 high of 16%.
If you find yourself among the employed again, consider bumping up your withholding rate to make sure you don’t fall behind on your taxes this year. If you end up with a refund, the IRS can also apply that amount to any back taxes you may owe.
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