Unemployment Compensation is Taxable

COVID-19 Forces Millions of Americans
to Rely on Unemployment Compensation

Many Receiving Unemployment Compensation for the First Time

Due to the COVID-19 pandemic, millions of Americans are now receiving taxable unemployment compensation, many of them for the first time. Here at Bayshore CPA’s, we want to remind people receiving unemployment compensation that it is taxable. If you are one of these taxpayers, you can have tax withheld from your benefits now to help avoid owing all the taxes on this income when you file your federal income tax return next year.

By law, unemployment compensation is taxable and must be reported on a 2020 federal income tax return. Taxable benefits include any of the special unemployment compensation authorized under the Coronavirus Aid, Relief, and Economic Security (CARES) Act, enacted this spring.

Withholding is Voluntary

Federal law allows any recipient to choose to have a flat 10% withheld from their benefits to cover part or all of their tax liability. To do that, you must fill out Form W-4V, Voluntary Withholding Request, and give it to the agency paying the benefits. Don’t send it to the IRS. If the payor has its own withholding request form, use it instead.

If you choose not to have taxes withheld, or if you do not withhold enough, you can make quarterly estimated tax payments instead. The payment for the first two quarters of 2020 was due on July 15. Third and fourth quarter payments are due on Sept. 15, 2020, and Jan. 15, 2021, respectively. For more information, including some helpful worksheets, see Form 1040-ES and Publication 505, available on IRS.gov.

Types of Payments

You should check your withholding on the following types of payments:

Unemployment compensation includes: Benefits paid by a state or the District of Columbia from the Federal Unemployment Trust Fund
Railroad unemployment compensation benefits
Disability benefits paid as a substitute for unemployment compensation
Trade readjustment allowances under the Trade Act of 1974
Unemployment assistance under the Disaster Relief and Emergency Assistance Act of 1974, and
Unemployment assistance under the Airline Deregulation Act of 1978 Program

If you have been receiving unemployment benefits and return to work before the end of the year, you can use the online tool, IRS Tax Withholding Estimator, to make sure you are having enough tax taken out of your pay.

How to Report Unemployment Compensation

In January 2021, unemployment benefit recipients should receive a Form 1099-G, Certain Government Payments, from the agency paying the benefits. The form will show the amount of unemployment compensation you received during 2020 in Box 1, and any federal income tax withheld in Box 4. Report this information, along with your W-2 income, on your 2020 federal tax return.

A Final Note

If you need assistance determining how to handle your unemployment benefits based on your particular situation, contact your local tax professional.

Stay safe. Stay well. Stay home.