Will My Unemployment Benefits Affect My Tax Refund?

Millions of Americans claimed unemployment benefits in 2021. Unemployment can be a lifeline to those dealing with a sudden job loss. Benefits can help to keep your family afloat so you can meet expenses until you find work again. Unemployment and taxes can be a source of confusion, however. At Gudorf Tax Group, we have received a number of calls from people wondering, “How does unemployment affect my taxes?”

In this blog post, we will try to offer answers to some of the most common questions about unemployment and taxes.

How Does Receiving Unemployment Affect My Taxes?

Unemployment benefits are generally considered taxable income (though not earned income, which is relevant for reasons we’ll discuss below). Therefore, you are responsible for paying both federal and Ohio tax on your unemployment benefits. The amount of tax will depend on your tax bracket. If unemployment benefits are included in federal adjusted gross income (AGI), they are taxed under Ohio law.

Is There a Tax Break on Unemployment Benefits Received in Tax Year 2021?

The American Rescue Plan Act (ARPA) allowed some taxpayers to deduct from income up to $10,200 of unemployment benefits on their 2020 tax return. If both members of a married couple were receiving unemployment, they could both deduct up to that amount. Since that deduction would reduce their federal AGI, it would also reduce their Ohio income tax.

However, Congress did not pass a law extending the deduction for 2021 employment benefits. As a result, taxpayers receiving unemployment benefits in 2021 will likely pay more in taxes than they would have on those same benefits for tax year 2020. If you are owed a refund, it will be smaller than it would have been if the deduction was extended.

How is Income Tax Paid on Unemployment?

When you are employed, you generally have income tax withheld from your paycheck each pay period. It’s like paying your income tax in installments all year long. If you withhold more than is needed to cover your tax bill, you get a refund. If you withhold less, you will probably need to write a check to the IRS when you file your taxes. You probably established your withholding amount shortly after starting your job by filling out IRS form W-4.

You can have income tax withheld from your unemployment benefits, too, but you should be aware that withholding taxes from unemployment benefits is not automatic. If you failed to establish withholding from your unemployment benefits (at a 10% rate) when you began receiving them, you have a couple of options.

If you’re still receiving unemployment benefits, you can begin having taxes withheld by filing Form W-4V with the state unemployment agency. However, doing so will not affect your 2021 taxes, only your benefits going forward.

If you are no longer receiving unemployment, you should probably pay quarterly estimated taxes. If you’re not sure how to calculate estimated taxes, consult an experienced Ohio tax professional.

Does Receiving Unemployment Affect My Eligibility for Tax Credits?

Tax credits are a dollar-for-dollar reduction in the amount of taxes you owe. If you have a tax bill of $750, but have a $500 tax credit, you only pay $250 in taxes. Some tax credits are refundable, meaning that if the amount of your credit is more than the amount of your taxes due, you will receive the difference back from the government in the form of a refund.

The Earned Income Tax Credit (EITC) is a refundable tax credit for low-to-moderate income workers who have worked and earned income under the amount of $57,414 in 2021, along with meeting certain other criteria. Because unemployment benefits are not considered “earned” income, receiving unemployment rather than wages or salary may reduce the amount of tax credit available to you under the EITC and other tax credits. Those include the childcare credit and the Additional Child Tax Credit. To be eligible for some tax credits, you must be either working, or looking for work.

Will I Receive a Statement of Unemployment Benefits for Filing my Taxes?

Yes. As with other forms of income such as wages and interest income, you will receive a form reporting your unemployment income. Be on the lookout for Form 1099-G; you should have received it by the end of January 2022.

The Bottom Line

Depending on how you handled your unemployment benefits and withholding during the tax year, you could be looking at a higher tax bill in April. To make sure you properly report any unemployment income on your Ohio and federal income tax, schedule an appointment today with the accounting and tax preparation professionals at Gudorf Tax Group.