American Rescue Plan: Unemployment Tax Exclusion Provision
Last week Congress passed the American Rescue Plan. The most visible benefit to come out of it is a third stimulus payment of $1,400. But for millions of Americans there is another provision that is just as important.
The New York Times reported in July 2020 that 30 million US workers were receiving unemployment benefits. While desperately needed by households it came with a downside, taxes. Unemployment benefits are taxable at the federal level, which can lead to a nasty surprise at tax time. Those receiving benefits can request that money be withheld from their payments for taxes, but few did. It is estimated that fewer than 40% of recipients requested any withholding, which is not surprising. Taxes are not the first priority for people worried about keeping a roof over their heads.
The American Rescue Plan reduces the tax impact of unemployment. It includes a provision that exempts $10,200 of unemployment benefits from federal income taxes. In order to qualify the benefits must have been received in 2020 and individuals must have modified Adjusted Gross Income (AGI) of less than $150,000. The provision is retroactive, meaning that the unemployment income reported on your 2020 tax return will be reduced by up to $10,200 if you qualify.
What Should I Do?
If you can, wait. Here’s why:
- The legislation passed made the benefits non-taxable; it didn’t give instructions on how to implement it. The IRS is working quickly to find solutions to the many issues involved. Once they provide guidance the tax preparation companies will incorporate the fix into their programs. There are several issues, and solutions may not all be implemented at the same time.
Yesterday the IRS put out an Unemployment Compensation Exclusion Worksheet to assist in computing the amount of unemployment that is not taxable. That is lightening quick for an organization that still uses faxes for many routine tasks. While this will not address all of the issues, it’s a step that shows how dedicated the IRS is to quickly administer the provision.
- Right now we don’t know whether previously filed returns with unemployment will be adjusted with an e-filed amendment or if they’ll need to be mailed in. Waiting to include the exclusion on your return, even if it delays filing by a few weeks, may get you your refund much faster than fixing a return that has already been filed.
To give you an idea as to why this is, last year many taxpayers updated their info on the IRS website to get their stimulus payments as quickly as possible and by direct deposit instead of a check. What they didn’t know is that this counted as an Informational Tax Return, and when they filed their real 2019 return it rejected because only one original return can be e-filed for each SSN. To correct this a return had to be mailed in. In normal times paper-filed returns are usually processed within 16 weeks.
- At this time no one knows what will need to be done to correct returns already filed or how long it will take. Most taxpayers pay to file their returns, either through DIY software or to a tax preparer. These are businesses that provide a service, tax preparation and filing, in exchange for monetary compensation. And many of these businesses either charge for amendments or do not offer amendment services.
Will they charge in this instance? I have no way of knowing, but you should be aware of the possibility. This isn’t a situation where the business did something wrong. They couldn’t have foreseen this, and there was nothing incorrect or missing from the return when they filed it.
I’ve Already Filed My Return, What Do I Do?
As discussed above, we don’t know what needs to be done to allow taxpayers to take advantage of this provision. Guidance will probably be released within the next few weeks, anything said or published before then is just conjecture.
However, March is not a good month to make big changes that affect current year tax returns. This time of year is always hectic for anything tax-related. Everyone would like for this to be implemented quickly, but even more importantly, correctly.
Here’s what I suggest:
- If you had your return prepared by a tax professional, they may not have the ability to quickly sort through returns to find those that include unemployment. I don’t speak for anyone but myself, but I would welcome a short email or phone message letting me know that you had unemployment income on your return, and that it has already been filed. I could then add you to a list so that I can quickly address your return when possible. This year stimulus payments, mortgage refinances, and other time sensitive items have created a tidal wave of returns. Even when the unemployment issue is resolved, turn-around time will most likely not be instant, so please be kind and patient.
- If you prepared your return yourself using online software, log into your account periodically and keep an eye on your email, including your spam, promotions, or social media folders. They should let you know what steps you need to take. If you haven’t seen anything in a week or two, call their customer service number and ask how they’re addressing this and how you’ll be notified.
The Unemployment Tax Exclusion Provision included in the American Rescue Plan is an unprecedented effort to help taxpayers recover from the economic effects of Coronavirus. Its implementation will not be overnight, but the IRS and tax preparation companies are working quickly to solve the issues that its passage creates.
This article is a brief introduction to the exclusion and is not meant to provide legal or tax guidance. There may be other rules that apply to your particular situation, and I encourage you to seek additional information and talk with your tax professional.
Megan Austin, EA