Coronavirus and Your Money

Refunds for $10,200 Unemployment Tax Break to Begin This Month

The IRS will start issuing automatic refunds sometime in May to people eligible for the unemployment benefit tax exemption.

If you received unemployment benefits last year and filed your 2020 tax return relatively early, you may find a check in your mailbox soon (or a deposit in your bank account). Starting in May, and extending through the summer, the IRS will automatically issue tax refunds to those Americans who filed their 2020 return and reported unemployment compensation before tax law changes were made by the American Rescue Plan.

Signed on March 11, the American Rescue Plan exempts from federal tax up to $10,200 of unemployment benefits received in 2020 ($20,400 for married couples filing jointly) for households reporting an adjusted gross income (AGI) less than $150,000. You can use the IRS's Interactive Tax Assistant tool to see if payments you received for being unemployed are taxable.

Passage of the American Rescue Plan occurred after millions of taxpayers had already filed their 2020 tax returns but were left scratching their heads wondering if they had to file an amended return in order to claim the new benefit. At first, the IRS discouraged taxpayers from filing amended returns, claiming they were devising a plan to compensate those filers. The IRS is now about to start making good on its word by programmatically making the appropriate changes to those returns.

According to the IRS, for those taxpayers who already filed and calculated their taxes based on the full amount of unemployment compensation, the IRS will determine the correct amount of taxable unemployment compensation. Any overpayment of tax will either be refunded or applied to other outstanding taxes owed.

The IRS said it will recalculate these tax returns in two phases. First, it will start with those taxpayers eligible for an exemption up to $10,200. It will then adjust returns for married taxpayers filing jointly who are eligible for an exemption up to $20,400 and others with more complex returns.

Although the IRS says that there’s no need to file an amended return, some early filers may still need to, especially if their recalculated AGI makes them eligible for additional federal credits and deductions not already included on their original tax return.

The IRS, for example, can adjust returns for those taxpayers who claimed the earned income tax credit and, because the exemption changed their income level, may now be eligible for an increase in the tax credit amount which may result in a larger refund. That said, taxpayers would need to file an amended return if they didn’t originally claim the tax credit, or other credits, but now are eligible because the exclusion changed their income, the IRS said. These taxpayers may want to review their state tax returns as well.

The new tax exemption only applies to unemployment benefits received in 2020. So, if you receive unemployment compensation in 2021 or beyond, expect to pay federal tax on the amount you get.

To avoid a big tax bill when you file your 2021 return next year, consider having taxes withheld from any unemployment payments you receive this year. Contact your state unemployment office to have federal income taxes withheld from your unemployment benefits. You may be able to use Form W-4V to voluntarily have federal income taxes withheld from your payments. However, check with your state to see if it has its own form. If so, use the state form instead.

As for state taxes, just because the federal government is waiving taxes on the first $10,200 of your 2020 unemployment benefits, that doesn't mean your state will too. To see if your state has adopted the federal exemption for 2020 state tax returns, see Taxes on Unemployment Benefits: A State-by-State Guide.

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