Unemployment Benefits and Your Taxes

by | Jul 20, 2020 | Financial Planning

We wanted to continue the discussion Tom, Tim, and Brendan had in Episode 315 of the Mullooly Asset Podcast. Let’s further discuss the impact unemployment benefits can have on your tax situation for next year.

The coronavirus pandemic forced millions of people out of work and scrambling for money to pay their bills. By the end of May 2020, over 20 million Americans claimed unemployment benefits. We’ve seen the impact of this virus all across the Jersey Shore with businesses not being able to operate normally. Some have had to completely close altogether.

The stimulus checks that were a part of the CARES Act are not taxable income. However, any unemployment benefits are federally taxable and may also be taxed by your state. Each state is different, so somebody collecting unemployment here in Monmouth County New Jersey will be different than someone in New York.

We discussed a few options in the podcast, but we wanted to reiterate a few different options to help you avoid an unwanted tax problem next year.

Option #1: Request Tax Withholdings 

While you’re working, employers are required to withhold money for federal taxes that go right to the IRS.  You don’t need to worry about it. When it comes to unemployment compensation, though, tax is not automatically withheld. However, the amount received is still taxed federally — so you may end up owing at the end of the year.

To avoid this, you can opt to have federal income tax withheld by submitting a request to the IRS using Form W-4V. Unfortunately, if you have been receiving unemployment without withholding money for taxes, Form W-4V will not be able to retroactively withhold. It can still help you moving forward!  While you may not have to pay taxes on a state level here in New Jersey, this can still help you federally.

Option #2: Make Estimated Tax Payments

The IRS recommends making estimated payments if you don’t elect to have taxes withheld. This saves you from owing a hefty tax bill all at once. It can also help you avoid or fix any issues that may come up, such as underpaying on taxes unintentionally. You should be able to avoid penalty if you pay 9% of your tax throughout the year.

To estimate your payments, the IRS advises using your previous year’s tax return as well as Form 1040-ES, Estimated Tax for Individuals. The payment considers your expected income and tax credits.

If you began receiving unemployment compensation in April or June of 2020, the deadline to make estimated tax payments has been extended from April 15 and June 15 to July 15, 2020. After this, however, estimated tax payments will still be required according to the normal schedule.

Option #3: Put a Portion into Your Savings Account 

Some people may not be able to make consistent estimated payments or have money withheld from their benefits. Whenever possible, put away part of your benefits compensation into a savings account. If you already have a small emergency fund, delegating this portion for your taxes can help you prepare for next year.

For some people, they will need every penny they get from unemployment to make it through these difficult times.  However, any little bit put into savings can help you avoid future financial pain when tax season rolls around.

COVID-19 has brought about uncertainty in so many different ways. People are collectively waiting to know when they can return to school, work and a somewhat “normal” way of life.

For those who have experienced financial hardship and have needed to collect unemployment, there are still proactive ways to ease your financial future. If you have any questions about taxes on your employment benefits, or making ends meet during this time, please don’t hesitate to reach out.  Click here to schedule a meeting with one of our advisors.  There is no cost or obligation.

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