Due a Refund for Tax-Free Unemployment? Here's Why You May Not Get It

Before you gear up to spend your refund, see if this potential hiccup applies to you.

The $1.9 trillion American Rescue Plan, which was signed into law in mid-March, did more than just send $1,400 stimulus payments flying into recipients' bank accounts. It also gave jobless workers a break on their unemployment income.

Millions of Americans lost their jobs in 2020, especially when the pandemic first hit. Normally, unemployment benefits are subject to taxes, and recipients can opt to have their taxes withheld up front and collect a smaller weekly benefit -- or they can collect their full weekly benefit and owe the IRS later.

Many people went the former route by having taxes withheld so they wouldn't have to deal with an IRS bill later on. But thanks to the American Rescue Plan, many of those people are now due a refund. That's because the relief bill allowed $10,200 of unemployment income to be collected tax free in 2020. Since the bill wasn't signed until 2021, many people who paid those taxes are now in line to get them back in IRS refund form.

That said, some people may not get their unemployment income refund. Here's why.

Refunds can be garnished

If you're due a refund for taxes you paid on unemployment income, but you owe certain debts, you'll risk having that refund garnished. That's not unique to the unemployment tax break. Rather, it's a general rule that applies to all tax refunds.

The federal government can garnish refunds to satisfy unpaid federal debts, which means if you have an old tax bill you never paid, the IRS can take your refund to cover it. Similarly, if you owe child support, your refund can be garnished to make up for the sum you owe.

Additionally, if you owe money to a private creditor, like a bank or credit card company, your refund can also be garnished, provided there's a judgment entered against you in a court of law. As such, if you're counting on a tax refund on unemployment income but you know you have outstanding debts you're behind on, you may need to brace for the fact that you won't get your refund after all.

When will unemployment refunds arrive?

The IRS is already in the process of issuing refunds to workers who paid taxes on last year's unemployment benefits. And the agency plans to continue issuing those refunds on a rolling basis through the end of the summer.

If you're expecting a refund on unemployment income but you don't receive one, contact the IRS and inquire about it. You can call the agency at 800-829-1040, or you can use the IRS's "Where's My Refund?" tool to check up on the status of your refund.

Keep in mind that if you filed a paper return, your refund may be delayed. In fact, if you know you don't have any outstanding debts or mandatory payments, like child support, that you're behind on, then there's no need to panic if your refund shows up a bit late. But if you do owe money, that refund may never arrive.