Do you know anyone receiving unemployment benefits under the Cares Act? They should read this before filing their taxes
Millions of Americans have lost their job during the COVID-19 outbreak and are relying on unemployment benefits as they pay their bills and re-start their career.
That’s a serious challenge they face right now.
Without some planning, they could also face a future problem — an unanticipated, unbudgeted tax bill in 2021.
‘There will definitely be some people who are going to be surprised at tax time next year and I’d like to minimize that.’ — Michele Evermore, senior policy analyst at the National Employment Law Project.
“There will definitely be some people who are going to be surprised at tax time next year and I’d like to minimize that,” said Michele Evermore, senior policy analyst at the National Employment Law Project, an advocacy organization for workers.
Here’s why Evermore and other observers are concerned: though the Internal Revenue Service counts unemployment benefits as taxable income, people getting that money may not be withholding a portion for federal income taxes. They may not think to withhold for income tax or they may not be willing to withhold because they have to maximize their unemployment check now.
More than one-third of taxpayers (37%) didn’t know jobless benefits are taxable income, according to a 1,000-person survey last month from Jackson Hewitt, the tax preparation chain. Fifty-one percent didn’t know they need to request that taxes be withheld from their unemployment compensation.
If benefit recipients aren’t withholding money for income taxes now, they’ll be facing a larger tax liability later — and they may not be ready for that.
37% of taxpayers didn’t know unemployment compensation is taxable income. —
It’s going to affect a large number of people “because of the magnitude of the crisis now,” Evermore said.
The unemployment rate surged in the spring and dropped to a relatively improved 11.1% in June. In the week ending June 13, there were 31.4 million continuing claims for federal and state unemployment insurance programs, according to the Department of Labor.
The size of unemployment benefits can also amplify the tax implications. Through the end of July, the federal government is paying $600 a week on top of the state claim, a result of the $2.2 trillion stimulus CARES Act.
“It’s more money that’s taxable income,” said April Walker, lead manager on the tax practice and ethic teams at the American Institute of CPAs. The extra $600 a week “just increases the potential that there’s going to be tax due on money you’re not expecting.”
So what can be done to avoid a tax bill or a smaller refund?
This is a “fixable problem,” according to Walker. In fact, there are several ways to do it.
For starters, the IRS has a document called Form W-4V, where people can elect to withhold 10% of their unemployment compensation. The IRS only lets taxpayers withhold 10% for income tax when it comes to unemployment benefits, the document says.
State unemployment agencies may incorporate this form in an initial benefit application or they may ask about federal withholding in another way, Walker said. The completed form can change withholding amounts going forward but it can’t retroactively change amounts, she added.
Unemployment claimants need to be aware of federal income taxes, and also state income taxes on their benefits.
Alabama, California, Montana, New Jersey, Virginia and Pennsylvania do not consider unemployment as taxable income when it comes to calculating state income tax bills.
Some states don’t regard jobless benefits as taxable income. The list includes Alabama, California, Montana, New Jersey, Virginia and Pennsylvania.
In other states, it’s a non-starter because there’s no state income tax at all. Those states are Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington and Wyoming.
Another way to avoid a Tax Day surprise is making estimated quarterly payments to pay throughout the year. (This year, first and second quarter payments are due on July 15.) People can determine how much estimated quarterly tax to pay using the IRS Form 1040-ES.
A third way to get ready is to just put money aside for taxes. That’s easy to say, but how much should people earmark for taxes?
One place to start is the IRS’ withholding estimator, Walker noted. Users will need their most recently-filed income tax return, along with recent pay statements and other income statements, like unemployment compensation.
It’s a good idea for people to do a “check up” on their withholdings around this time of year and in mid-November, according to Mark Steber, Jackson Hewitt’s chief tax information officer. They can do that by themselves or with a tax professional, he said.
As taxpayers plan ahead for next year, Steber notes they might need to brace themselves to potentially miss out on the Earned Income Tax Credit (EITC).
Job wages count as “earned income,” but unemployment benefits do not. It’s possible for someone’s adjusted gross income, inflated by unemployment benefits, to bump them above the EITC threshold and make them ineligible, according to TurboTax (INTU)
“The EITC surprise is always unpleasant,” Steber said.
Generally speaking, some foresight and tax planning now will go a long way, he said. “The earlier you start, the less pain you’ll have.
From: Andrew Keshner- Taxwatch