Unemployment Benefits & Taxes: Do They Count as Income?

When it comes to supporting your family and paying the bills, there’s nothing wrong with relying on government help to see you through, especially if you can’t afford the basics. Getting unemployment income as a temporary solution can be helpful as you look for another job.

If you’ve been receiving assistance, you’re probably wondering, does unemployment count as income? The short answer is yes, and it may affect your taxes.

How Unemployment Affects Your Taxes

If you received unemployment income during 2021, the amount counts toward your taxable income, according to the IRS. This is different from the 2020 tax year, when the American Rescue Plan Act (ARPA) waived up to $10,200 of unemployment income, giving job seekers a tax break.

In other words, for the 2021 tax year, all the money you received from unemployment assistance — whether it's the federal or state government — counts as taxable income. It could mean you’ll end up owing when you file your income tax return, but it depends on factors such as any other income you receive and filing status — check with a tax professional to help with your individual situation.

Is Unemployment Considered Income?

When you earn a paycheck as an employee, part of your gross income automatically gets deducted to pay for federal and Social Security taxes. This means any form of income — even if it’s from the government, with few exceptions — needs to be taxed.

Unlike income from an employer, these taxes aren’t automatically deducted from your unemployment benefits. Since you’re still responsible for paying your taxes, it needs to be counted toward your gross income. Although unemployment income counts as ordinary income, they are not subject to Social Security and Medicare taxes. Depending on where you live, you may also be required to pay state income taxes on unemployment income.

If you’ve received unemployment benefits, you should receive Form 1099-G during tax season. This form will include information such as your personal details, unemployment income received, and whether there were any state or federal taxes withheld.

What Qualifies As An Unemployment Benefit?

Unemployment benefits are income you receive directly from the federal or state government. You can apply for it through your state’s unemployment office.

Federal And State Taxes On Unemployment Compensation

Those who received unemployment benefits have several options on how to pay state and federal taxes, including it being withheld from each payment or you can pay the full amount during tax season.

Unemployment Benefits And Federal Income Tax

You can choose to have taxes withheld from your unemployment compensation payments much like you would with a paycheck from an employer. That way, you may be able to avoid any surprises when you file your income taxes.

If you do, you can request to have the taxes withheld from each payment when applying for unemployment benefits. Otherwise, you can file Form W-4V (Voluntary Withholding) through your state’s unemployment office. Keep in mind you can only withhold up to 10% of each payment for federal income taxes.

Another option is to pay estimated taxes every quarter. It allows you some flexibility as to how much you can afford to pay and gives you a longer time to do so, compared to the frequency in which you receive unemployment income checks.

Unemployment Benefits And State Income Tax

Many states will tax your unemployment benefits, though the five states that don’t have a state income tax most likely won’t.

If you live in the following states that do have a state income tax, your unemployment benefits aren’t taxable:

• California
• Montana
• New Jersey
• Pennsylvania
• Virginia

Alabama, Indiana and Wisconsin may not tax some of your unemployment benefits, but that may not always be the case. Each state has their own rules (and these are subject to change), so it’s best to check with the unemployment office for your state to determine what your tax liabilities are.

The Bottom Line

When it comes to paying taxes on your unemployment income, it’s your choice whether you want to pay taxes each time you get paid or as you file your income taxes. There is no right or wrong answer, and it depends on whether you need the cash now or can afford to pay taxes on the income.

It may make sense to not have taxes withheld if you’re struggling to make ends meet. However, if you can afford it and are worried you’ll owe Uncle Sam, then it might make sense to pay some of the taxes now.

If you didn’t make tax payments on your unemployment benefits throughout the year, you might have a large bill come tax season. If so, and you need assistance paying, check out the Rocket HQ^SM Personal Finance page for information and advice on how to file your taxes.