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Are Unemployment Benefits Taxable During the Coronavirus Outbreak?

The IRS wants its cut, but a few states will offer you a break

Closeup of overlapping tax forms, Form 1099G Certain Government Payments, Federal Income Tax Withheld $0.00, with stack of cash, blank form boxes.

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En español | If you’ve lost your job because of the coronavirus, you’re not alone: 10.7 million people, or 6.7 percent of the U.S. workforce were unemployed in December 2020. And if you received unemployment benefits, you’re going to owe federal (and likely state) income taxes on those payouts.  

Many states cap their highest unemployment insurance (UI) payment at half the state’s average weekly wage, and some have even lower benefit caps. In February 2020, average weekly UI benefits were about $387 nationwide but ranged from a low of $215 in Mississippi to $550 in Massachusetts, according to the Center on Budget and Policy Priorities, a nonpartisan think tank. About 4 million people have been unemployed for more than 26 weeks, which is when state unemployment insurance typically runs out. 

Under the CARES Act, enacted March 27, people who were laid off because of the coronavirus pandemic were eligible to get an additional $600 per week until July 31, 2020. This federally funded $600 weekly benefit extended to people who aren’t traditionally covered by state unemployment insurance. Under what’s called the Pandemic Unemployment Assistance (PUA) program, the self-employed, independent contractors and so-called gig workers were covered by unemployment for up to 39 weeks if they lost their jobs as a direct result of the pandemic. Another program, the Pandemic Emergency Unemployment Compensation (PEUC) program, gave an additional 13 weeks of federally funded unemployment insurance payments.

In December 2020, Congress authorized a $900 billion relief package that includes an extra $300 per week in unemployment benefits through March 14 — half the amount in the CARES Act. The legislation also extended the PUA and the PEUC programs for an additional 11 weeks. 

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Enjoy the windfall, but don't forget the tax man

The federally funded $300 weekly payments, like state unemployment insurance benefits, are taxable at the federal level. Most states tax UI benefits as well. Of the 40 states that tax income, only five — California, New Jersey, Oregon, Pennsylvania and Virginia — fully exempt UI benefits. Indiana and Wisconsin make partial exemptions, according to the Tax Foundation, an independent tax policy nonprofit. In the remaining 33 states, UI benefits are fully taxable at the state level.

Early this year, you’ll get a Form 1099-G, which will tell you the amount of UI benefits you received in 2020, and how much was withheld for taxes. You’ll have to report that income on your 2020 federal tax return (and state return, if applicable).

“When filing for the benefit, strongly consider choosing to have tax withheld so you aren’t blindsided when you file your income tax return,” says Logan D. Howard, a certified public accountant (CPA) in Masontown, Pennsylvania. “In most cases, the tax withheld should be sufficient to cover the tax liability.”

You do have the option of setting aside money yourself instead of having it withheld, or of paying estimated taxes. “Keep in mind that a taxpayer’s 2020 income may be down substantially due to the COVID-19 pandemic,” says John A. Madison, a CPA in Ashland, Virginia. The Tax Cuts and Jobs Act, passed in 2017, increased the standard deduction, meaning many low- to middle-income taxpayers receiving UI may end up owing little or no federal taxes.

“My advice would be to know yourself,” Madison says. If you have the willpower to reserve some of your UI benefit for next year — and you can avoid underpayment penalties — you’ll have more flexibility than if you had those taxes withheld. If not, he says, have the money withheld as you deal with looking for work, managing your budget and self-quarantining.

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