2020 was a train wreck inside a dumpster fire, there is no doubt about it. The COVID-19 pandemic created an unprecedented number of unemployment claims. Many of these claims were from workers who had never claimed unemployment before, and those first time recipients might not realize that those benefits are indeed taxable.
We can debate all day why it is that the IRS considers unemployment benefits to be taxable income, but the fact of the matter is that it does. The really crazy thing is, tax withholding is not automatically taken from these benefits. You either have to request that taxes be withheld, or you have to make estimated tax payments quarterly.
Even more confounding is the fact that just requesting to have taxes withheld from your unemployment benefits may not be enough. The IRS has some great tools on their website to help you figure out if you have had enough withheld from your unemployment benefits. The Tax Withholding Estimator is a great place to start. It is a good idea to use this tool periodically throughout the year in general, just to make sure you are on the right track and won’t have any nasty surprises at the end of the year.
When you are assembling your documents to prepare your tax return, make sure you have received form 1099-G, Certain Government Payments. This form will be needed for you or your tax professional to prepare your return correctly. If it is left off, your return will be eventually flagged for an audit due to unreported income, you will be subject to all sorts of penalties and additional interest, and it is generally just a pain in the rear to deal with.
This has been a tough year. If we all stick together and watch out for one another, we can get through this. Stay safe, stay healthy, be kind.