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Unemployment Checks: Tax Questions & Answers

In April, 20.5 million Americans lost their jobs and the unemployment rate soared to 14.7%, according the U.S Department of Labor. That’s the highest number of unemployed since the 1930s Great Depression. And thanks to COVID-19, it is also the first time many people have faced the uncertainty that comes with being unemployed or furloughed.

If you’re among those who recently lost their job, taxes may be the last thing on your mind right now, but you shouldn’t put things off until next year. The money you receive through unemployment checks, as well as other sources of income, all have tax implications that will directly affect your return. That’s why we’ve put together this list of tax questions and answers to help you understand how unemployment checks, retirement account withdrawals, and other supplemental resources are taxed.

Do I Have to Pay Taxes on Unemployment Checks?

Yes. Unemployment payments are taxable. In fact, any unemployment checks you receive must be reported on your federal tax return, as well as your state return (if applicable). The money will be included in your gross income and taxed at your regular income rate. You do, however, have some options on how the tax is paid.

  • Automatic Withdrawal: You may elect to have taxes automatically take out before you are paid. Under this method, 10% of each payment will go to the IRS and an additional amount will be sent to the state (if applicable).
  • Quarterly Tax Payments: If you elect quarterly payments, you’ll be responsible for calculating the correct amount and sending it in on a timely basis. Should you underpay your taxes, it may result in a penalty fee.

Depending on your tax bracket, however, you may still owe taxes in addition to those being withheld. It’s always best to check with a tax professional to ensure there are no surprises on next year’s return.

If you voluntarily contributed to a non-union unemployment fund, however, the payments you receive while unemployed will only be taxed if they exceed the amount you contributed to the fund.

Retirement Account Withdrawals & Loans

If you find that your unemployment checks aren’t covering your living expenses, and you want to use your 401(k) or other retirement funds to help, here are some things to consider.

Will I be taxed on withdrawals from my retirement account?

In general, any money you withdraw from a pension or retirement plan will be taxed. Thanks to the Coronavirus Aid, Relief, and Economic Security (CARES) Act, however, you have up to three years to pay those taxes. You can also get back any taxes paid by filing an amended return, if you redeposit the money you withdrew within three years of taking it out. 

Are there penalty fees for taking money out of my retirement account early?

Before COVID-19, you would pay a 10% penalty for early withdrawal (for those younger than 59 ½), as well as a 20% federal tax withholding on the distributions. Under the new rules, these penalties are waived if you (or your dependent) have tested positive for the virus. You are also eligible if you’ve experienced financial difficulties, such as reduced work hours or being laid off, due to the coronavirus. The penalty-free option is only available to qualifying distributions made in 2020. Any contributions made during the year may also be withdrawn without penalty, if returned to you before your tax return due date.

Are 401(k) loans taxed?

If you need to take a loan from your 401(k) due to financial hardship, you can borrow up to 100% or $100,000 (whichever is less) under the new law. The loan must be made before September 23, 2020, and you may defer payments for up to one year. You have up to five years to pay it back before it’s subject to tax. Be sure to check with your HR department, however, as your plan rules may differ.

Other Tax Considerations

Unemployment checks, even with the extra $600 a week from the federal government, may not be enough to cover your financial obligations during this unprecedented time. You may need to rely on public assistance, family help, and other resources. Here’s what you need to know.

Are food stamps taxable?

If you are receiving unemployment checks, you may also qualify for other public assistance. This may include WIC (Women, Infants, and Children), SNAP (Supplemental Nutrition Assistance Program) and others available through TANF (Temporary Assistance for Needy Families). In general, any benefits received through these programs, like food stamps, are not taxable.

Do I have to pay taxes on money given to me by friends or family?

Generally speaking, gifts made to you by others aren’t taxable. It’s the person making the gift who would be responsible for paying an applicable federal taxes.

I Owe Taxes This Year and I Can’t Pay. Now What?

The new federal tax filing deadline (as well as most states) was pushed to July 15, 2020. You may request a filing extension, but that won’t postpone your payment due date. If you worry that you’ll owe taxes, and cannot afford to pay it at this time, consider applying for an IRS payment plan. This would allow you to make smaller, affordable payments over time, instead of having to pay in one lump sum. You may also be eligible for an Offer in Compromise, depending on your circumstances.

To avoid any potential late payment penalty fees, contact our tax professionals before the July 15 deadline to discuss your tax relief options.