Millions of Americans have been hit hard financially due to the coronavirus pandemic. Approximately 36.5 million U.S. adults have filed for unemployment benefits over the past two months, according to the Department of Labor, and if the virus isn't contained soon, that number could continue to skyrocket.
Even with the help of unemployment benefits, however, many people are still struggling. To provide relief, Congress passed the Coronavirus Aid, Relief, and Economic Security (CARES) Act, which provided millions of Americans with stimulus checks and also allowed unemployed workers to collect an additional $600 per week in unemployment benefits.
While stimulus checks are tax-free and won't count toward your income, unemployment benefits are a different story. If you're receiving benefits now, there's a good chance you could be hit with a hefty tax bill later.
How your unemployment benefits are taxed
Unemployment benefits have always been subject to federal taxes (and potentially state and local taxes, depending on where you live), but the additional $600 per week could result in a bigger tax bill.
The CARES Act was passed in late March, and it extends the $600 per week benefit boost through the end of July. That means if you collect this extra money each week for the four months it's available, it will amount to nearly $10,000 in additional unemployment benefits. That's a good chunk of change that can provide serious financial relief, but if you're not prepared to pay taxes on that extra benefit money, your tax bill could take you by surprise.
Exactly how much you'll pay in taxes on your benefits will depend on where you live. Some states, including Alaska, Florida, Nevada, South Dakota, Texas, Washington, and Wyoming, don't have state income taxes, so you may get a tax break on your unemployment benefits. Other states, such as California and New Jersey, generally tax income but make an exception for unemployment benefits. To figure out whether you'll owe state taxes on your benefits, check your state's tax laws.
When it comes to how you want to pay these taxes, you have a few options. You can have the money withheld from each check, you could pay your taxes quarterly, or you can pay your entire tax bill when you file your tax return. There are advantages and disadvantages to each option, so consider each one carefully before you decide.
The best time to pay your taxes
If you're worried about owing a lot of money in taxes, you can opt to have your taxes withheld from each check. That way, you won't be slapped with a massive tax bill if you wait until you file your tax return to pay what you owe.
However, the downside to this approach is you won't have as much spending money right now. If you're trying to stretch every penny, it might be a better idea to hold off on paying taxes until your financial situation improves. You may need to make a bigger tax payment later, but you'll also have more money to pay your bills right now.
The middle ground between these two options, then, is to pay your taxes quarterly. This approach is a bit more complicated, because you'll need to estimate how much you'll owe in taxes each quarter -- which may prove difficult if you don't know how long you'll be collecting unemployment benefits. If you believe you'll be able to find a new job relatively soon, you may choose to simply wait until you file your tax return to pay your unemployment taxes. But if you think you'll be collecting unemployment benefits for the foreseeable future, paying estimated taxes can help you avoid a big tax bill while keeping more money in your pocket for day-to-day expenses.
The coronavirus pandemic has cost millions of Americans their jobs, and unemployment benefits are a lifeline for those struggling to make ends meet. Just be sure you're prepared for the tax bill that will follow, so you're not caught off guard by this expense.