Unemployment and Federal Taxes: What You Need to Know

        No matter how old you are, you should never stop learning. Whether it's through traditional instruction (i.e. going to school, attending a class, taking a training) or informal means (i.e. reading a book, an article, a blog lol), continuous education is needed for personal growth. This year, I signed up to take H&R Block’s Income Tax Course. I’ve been interested in learning more about the tax process for quite some time now. I remember when I first started working, doing taxes seemed confusing and scary to me mostly because of the bad rap the whole process usually gets from movies and TV shows. I didn’t want to do something wrong and then get audited or end up owing a huge amount in taxes. I remember thinking “What’s the deal with all the receipts? Was I realistically supposed to keep track of all my receipts???” Yea, I know I was being overly dramatic, but I did have my worries. 

        The first few years of filing my taxes, I had a co-worker and later on a friend’s father do them for me. But ever since I changed jobs, moved, and the increase in online services such as TurboTax happened, I finally got up the courage to do my taxes myself. Honestly, my taxes were pretty basic, so the process with the help of online software, if I had any questions, was very straightforward. I was starting to feel more comfortable doing my own taxes, but realized that besides being able to follow directions and plug-in my numbers where I was supposed to (and now with sites being able to automatically import your documents with permission, even manually plugging in numbers by hand was no longer required), I didn’t truly understand the process.

        Therefore, I decided to start looking into classes where I could learn more about income taxes. I came across the H&R Block class and figured it would not only be a good opportunity to learn and expand my knowledge on the subject, but it also could potentially become an avenue to make some extra money during tax season (dare I say “side-hustle” which is all the rage right now lol). The virtual class officially started on Monday, September 14 and while I prepared for the class and reviewed some of the course material, one topic stuck out to me, unemployment and income taxes. Which brings me to today’s topic...

 

 

Unemployment Benefits and Federal Taxes

        I think this topic is very fitting right now. When the COVID-19 pandemic hit the United States, millions were left without work and had to turn to unemployment to continue to cover their basic needs. According to the Pew Research Center, the outbreak and the economic downturn it triggered caused the ranks of unemployed Americans to increase by more than 14 million, from 6.2 million in February to 20.5 million in May 2020. One glimmer of hope for those that now found themselves unemployed was the additional weekly $600 unemployment insurance (UI) payment many received during the coronavirus crisis as part of the Federal Pandemic Unemployment Compensation program (CARES Act). During the time of economic hardship and the stress of dealing with the pandemic, these additional funds were probably a blessing to most however...

Most Unemployment Benefits Are Taxable

        With a few exceptions, most unemployment benefits are considered income and therefore are taxable. Although some states don’t require its residents to pay income tax on unemployment benefits, the federal government requires everyone to pay federal income taxes on unemployment benefits received. This includes the additional $600 UI payments which must be declared on next year's tax return for 2020. Meaning if you have received UI payments for the entire 14 weeks that will be equivalent to $8,400 in taxable income that must be declared–on top of any other state unemployment benefits you might have received.

Taxes Aren’t Taken Out Voluntarily

        Even though federal income taxes are required to be paid on unemployment benefits, the taxes aren’t always automatically withheld by States unless explicitly told to do so by the applicant. Some people may not know this and others may not want any money withheld feeling that they will need all of it now. While this may be true, this mindset could be setting folks up for a huge tax bill come next April. Consequently, putting them in another financial situation that could cause even more burden. Remember that if you do end up owing taxes, the IRS may assess penalties, including interest, to taxpayers for failing to pay taxes they owe by the deadline.

 

 

What You Can Do Now

        Ideally, you would have had your state withhold federal income tax at the start of receiving unemployment. To request the withholding, you would have needed to fill out form W-4V (the “V” stands for voluntary). Depending on your state, this may be something you can do online through the benefits portal. According to the Department of Labor, a flat federal tax rate of 10% of the benefits paid can be withheld from each payment. The good thing though is if you are currently receiving unemployment benefits, you should be able to request a W-4V form from your state’s unemployment office to start having the federal income tax withheld. If you aren’t receiving unemployment benefits anymore, you should consider taking the steps below to avoid being blinded by a large take bill.

• Look Into the Earned Income Tax Credit (EITC) - The EITC provides between $538 and $6,660 in tax credits, depending on your income and the number of dependents you have. If you qualify, EITC could reduce the amount of tax you owe and may give you a refund. For more information on this tax credit please check out this IRS site.
• Set-up a payment plan with the IRS - If you believe that you will owe taxes but know that you will not be able to pay the full amount by tax day (generally April 15th), you can apply to set-up a short term or long-term payment plan with the IRS. This will give you an extended timeframe to pay-off whatever it is that you owe.
• Start Saving Money Now to Prepare for the Bill - If you are in a better financial situation now and think you can swing it, you may want to start setting money aside now to help prepare for the bill. You may be unable to save the full amount by April 15th, but it may help offset the cost and lower the amount you would need to pay if you decide to set-up a payment plan.
  

         Bottom Line: This year has not been the greatest for many people financially and the last thing you want is to be hit by a surprise tax bill next year when you’re finally getting back on your feet. Now is the time to start planning and preparing. It may help save you from the financial stress in the future.

 

 

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