Is Unemployment Taxable? A CPA Answers!Income Taxes
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So with over 30,000,000 Americans having filed for unemployment benefits right now, I thought I would tackle the question of whether or not unemployment is taxable.
Now, when you ask the question is something taxable, there are a few ways that income can be taxed, major ones are federal income tax, state income tax, and also Social Security and Medicare.
So in this video I’m going to give an answer for each of these tax types sequentially, starting with the taxability of unemployment compensation for federal income tax purposes, then moving on to state income tax purposes, and finally wrapping up with Social Security and Medicare tax purposes.
And one thing to keep in mind here is that for tax purposes, the $600 extra weekly benefit, the FPUC, that was instituted by the CARES Act, is treated just like your regular unemployment compensation for tax purposes, so I’m grouping both of these together as “unemployment compensation” for purposes of this video because both the FPUC, which is the extra $600 weekly, and your regular, normal state unemployment benefits are both treated the same for tax purposes, though I have heard of some states automatically withholding federal taxes from the FPUC, but in terms of the way it will ultimately be taxed, it’s same as normal unemployment compensation.
So with that all said:
1. First, is unemployment compensation taxable for federal income tax purposes?
The answer to this question is yes, unemployment benefits are taxable on your Form 1040 for federal income tax purposes, assuming that your total income is over the filing thresholds, because if not then none of your income is taxable, I’m not going to get too off-course here by talking about those filing thresholds, I assume you’re going to make more than your standard deduction amounts this year from all income sources otherwise you probably wouldn’t be watching this video, so I’m not going to dwell on that.
Anyway, for federal income tax purposes, your unemployment benefits will be taxed at ordinary income rates, just like your normal wages from your job.
So in January of next year, maybe early February, but hopefully in January you will receive a Form 1099-G from your state, and in Box 1 you’ll see the amount of unemployment compensation you received during the year.
If you opted to have federal or state withholdings taken out of your unemployment payments, you will also see amounts in Box 4 and Box 11 respectively.
So speaking of withholdings, yes, for federal income tax purposes, you can elect to have 10% of your unemployment withheld out of every payment if you want to, completely optional, and I know for a lot of people that doesn’t make sense because you need as much money in your pocket now.
Or maybe you just want to make estimated tax payments on all of your income and pay those quarterly rather than having withholdings taken out of your unemployment compensation, that’s cool too, you do you.
Or you could choose just to deal with it when you file your tax return, just know that if you underpaid your taxes throughout the year, and that includes taxes owed on your withholding, it’s possible that you will be charged penalties and interest on your underpayment, so keep that in mind.
If you want to get a feel for what you should do, check out the IRS Tax Withholding Estimator, I’ll put a link in the description below, and I may do a walkthrough video of it as a follow-up to this video.
But just on the topic of withholding, when you applied for benefits, I think most states give you the option to opt into withholding, right, but if you didn’t opt into withholding, and now you do want withholding done because you don’t want a surprise tax bill when you file your tax return, you can file Form W-4V and send it to your state to have them start withholding for federal income tax purposes.
Keep in mind this form is only for federal withholding. Forbes gets this wrong, they say, “You can fill out a Form W-4V with the Internal Revenue Service (IRS) if you want to have your state government withhold part of your pay to use toward federal and state income taxes.”
This is wrong on two counts. You do not file the Form W-4V with the IRS, you file it with your state, and number two, the Form W-4V is not used to have your state government withhold for state income taxes, only federal, alright.
Business Insider also gets this wrong, it says if you file Form W-4V then it also covers state withholding, which is incorrect.
Form W-4V is only for federal withholding, for state, your state probably has its own form or maybe even an online method to elect into withholding for both federal and state, and if that’s the case, you should do that and not do the Form W-4V.
I don’t want to get too deep into the state stuff right now because I will give some examples of states and their own state withholding forms later in this video in the state section.
Anyway, back to the 1099-G. Once you’ve received the 1099-G from your state in January, all you have to do is input this information into your tax software.
Now, I’m going to tell you something important here to know about tax software, because I test them out every year, and I review them on my blog moneydoneright.com.
So the TurboTax free edition, at least as of this past tax year, does not let you input unemployment compensation, you will need to upgrade to a paid edition of TurboTax.
That’s right, if you want to use TurboTax and you have unemployment compensation, you will need to upgrade to the Deluxe Edition, which at least looking at the website right now would set you back $60 for fed and $50 for state, I think it runs a little bit cheaper when tax season first starts, but keep that in mind.
However, as of this past tax year, H&R Block Online Free Edition, and I have a review of H&R Block tax software on my blog as well, does allow you to report unemployment compensation in the free edition there.
So keep that in mind. If you’ve usually just had a W-2 and you’ve always used TurboTax and been able to file for free, but now you’re getting unemployment compensation, then H&R Block Online Free Edition might be worth a look as well when you file your taxes next year so you can still file for free.
Look, I’m a part of both of their affiliate programs, OK, TurboTax and H&R Block, I have no incentive to promote one over the other, I’m just telling you facts, alright.
2. Second, is unemployment compensation taxable for state income tax purposes?
The answer to this question is maybe.
States set their own tax laws, and in this case, most states that have an income tax do tax unemployment compensation for state income tax purposes.
So here are the eight states with an income tax that do not tax unemployment benefits: Alabama, California, Montana, New Hampshire, New Jersey, Pennsylvania, Tennessee, and Virginia.
And obviously the seven states without an income tax — Alaska, Florida, Nevada, South Dakota, Texas, Washington, and Wyoming — don’t tax unemployment compensation either.
Now let’s talk about withholding for state purposes the same that we talked about for fed. So I told you previously that for federal income tax purposes, you could complete and give Form W-4V to your state to tell them to start withholding from your unemployment for federal income tax purposes.
However, if you want to get withholdings taken out of your unemployment compensation for state purposes, you have to find your state’s method for doing that.
For example, here’s the New York form, and I’ll put a link to this in the description, they withhold from unemployment at a rate of 2.5% for state purposes if you so choose.
So they say here: “To start or stop withholding 10% Federal and/or 2.5% New York State Income Tax, complete the form below and return it to this address.”
So you would basically just fill it out, check the boxes that apply, if you want just fed or just New York or fed and New York you’d check both, and then you sign it, date it, put it in an envelope, and mail it to the address on the form.
And just another example, here’s Michigan’s form, they withhold from unemployment at 4.25% if you opt in, fill it out, sign it, mail it in if you want to opt into withholding.
So those are just examples, alright, and my point is that yes, unemployment compensation is taxable for state purposes in most states, and you can choose to withhold state income tax and federal income tax from your unemployment if you so choose.
3. Now, let’s move on to Medicare and Social Security taxes. Is unemployment compensation taxable for Medicare and Social Security taxes purposes?
The answer to this question is no, it’s not.
That one was easy, right.
So that is what you need to know about unemployment compensation and taxes, thank you so much for watching, be sure to like and subscribe, and be sure to check out the free stuff in the links in the description below, alright, everybody, I will see you next time, buh-bye.
Logan is a practicing CPA, Certified Student Loan Professional, and founder of Money Done Right, which he launched in July 2017. After spending nearly a decade in the corporate world helping big businesses save money, he launched his blog with the goal of helping everyday Americans earn, save, and invest more money. Learn more about Logan.