As of now, the enhanced unemployment benefits put into place under the CARES Act are set to end before July 31.
This means the $600 additional federal unemployment per week that millions of Americans have been receiving as aid during the coronavirus pandemic will come to an end. Qualified recipients will be eligible for state unemployment benefits only. Unlike your stimulus checks, which are tax free, you will have to pay taxes on unemployment checks.
I thought unemployment was supposed to provide me aid. Why do I have to pay taxes?
While the money you are receiving is meant to provide financial assistance, it is still considered compensation and is therefore, taxable.
You will still be required to pay federal and state income taxes on these funds, however, you will not pay Social Security and Medicare taxes.
Even though you are deemed “unemployed”, the $600 allotment is considered income and just like any other income you have received, it is taxable.
What can I do to avoid a large tax hit when I file my 2020 return?
1) Save, Save, Save!
It can be a rude awakening owing taxes when you usually expect a refund! Consider putting money aside from each check into your savings account. By doing so, you are preparing yourself to be financially smart come next year when you owe taxes. Even if it is a little each month, it is better than nothing. Come next year, you will be prepared to pay what you owe.
2) Elect to have 10% of your payments withheld
It is wise to consider withholding 10% of your unemployment benefits instead of taking a hit come next year. Fill out and submit Form W-4V “Voluntary Withholding Request” to the payer of your benefits. Fix it and forget about it. You’ll be happy you did come April 15, 2021.
3) Make estimated tax payments quarterly
Another option you have to avoid owing a large amount of taxes for 2020 is to make quarterly estimated tax payments. These payments are made directly to the IRS and your state and are due 4 times a year. Use the 2020 Estimated Tax Worksheet & Form 1040-ES to determine what your estimated tax looks like.
If you do not do one of the above, you will have to anticipate a large tax bill for the 2020 tax year. This is not always ideal because it can be a big hit for individuals to come out of pocket when it comes to filing taxes in 2021.
It is always smart to plan ahead when you can. We can help you prepare for the future!
Edited by Kaitlin Boyer
Christopher Boyer is an Accountant, Bookkeeper, Enrolled Agent & QuickBooks Pro Advisor. Chris provides a wide array of business consulting services, taxes and IRS representation for business owners, individuals, families, corporations, trusts, and estates.