When millions of Americans lost their jobs during the pandemic and filed for unemployment benefits, Congress gave them a temporary break — they could exclude up to $10,200 of their benefits for tax year 2020.
But that break lasted only for one year and unemployment benefits went back to being fully taxable for tax year 2021 — and 2022. Depending on where you live, you may have to pay state income taxes on those benefits, too. But you can take steps to avoid a surprise bill at tax time.
How Unemployment Benefits Are Taxed
If you received unemployment benefits in 2022 they are taxed as ordinary income (like wages) but are not subject to Social Security and Medicare taxes.
You should receive Form 1099-G from your state unemployment division in January reporting the total amount of compensation you received for 2022. Include this information on Schedule 1 of your 1040 form when you file your federal return.
Form 1099-G also shows how much money, if any, you had withheld from your benefits for federal and state income taxes, which you also report on your return.
[READ: How to Collect Unemployment Benefits.]
Most states tax unemployment benefits, too, although there are a few exceptions. Five states that have a state income tax do not tax unemployment benefits: California, Montana, New Jersey, Pennsylvania and Virginia, Jared Walczak, vice president of state projects at the Tax Foundation’s Center for State Tax Policy, says.
And Alabama, Indiana and Wisconsin may exclude some or all unemployment benefits from taxes in many cases, he says. Arkansas and Delaware adopted temporary exemptions for tax years 2020 and 2021 as a COVID-19 response but both states now tax unemployment benefits for tax year 2022, he says.
[See: 15 Tax Questions Answered.]
How to Pay Taxes on Unemployment Benefits
When you receive unemployment benefits, you have the option to have taxes withheld from your payments — like you would from your salary — so you won’t have a surprise bill at tax time.
You can ask to have taxes withheld from your payments when you apply for benefits or you can file IRS Form W-4V Voluntary Withholding Request with your state unemployment office. Keep in mind that you can request only 10% of each payment be withheld from your unemployment benefits for federal income taxes.
It’s up to you to decide if you want to have taxes withheld from your benefits. “The decision as to whether or not to have income taxes withheld from unemployment benefits is uniquely yours,” Mitchell Freedman, certified financial planner in Westlake Village, California, says.
“If you still receive a refund of taxes withheld or estimated, even after receiving the benefits, consider nothing. However, if you are concerned as to whether or not you will be able to write a check to the IRS come April, then have them withhold income taxes, which will take some of the stress out of paying your liability,” he says.
[READ: What Happens if You Don’t Pay Your Taxes?]
Other Options to Pay Taxes on Unemployment Benefits
You may also have some other options to pay taxes on your unemployment benefits. Instead of having income taxes withheld from them, you could pay estimated taxes each quarter, which adds more flexibility. Or, you could have more money withheld from your paychecks if you return to work later in the year.
“If you are strapped for cash and need every dollar for living expenses, I would take out minimal taxes now and deal with the shortage at tax time,” Morris Armstrong, enrolled agent in Cheshire, Connecticut, says.
You may have to pay a penalty, however, because you didn’t pay taxes throughout the year.
“The money is taxable and you should have taxes withheld, if feasible, or make adjustments further down the road through withholding or estimated payments,” Armstrong says.
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How Are Unemployment Benefits Taxed? originally appeared on usnews.com
Update 01/30/23: This story was published at an earlier date and has been updated with new information.
