The unemployment insurance that kept many people afloat last year may cause problems at tax time this year. Unemployment benefits are taxable, but tax withholding is typically voluntary.
Further, unemployment benefits are not earned income and so don't count toward two critical tax benefits that keep millions of working families with children out of poverty: the earned income tax credit and the additional child tax credit.
There isn't an easy workaround for tax refunds shriveled by inadequate withholding. But Congress provided a fix for the tax credits issue in the $900 billion coronavirus relief legislation passed last month: Filers can choose to use their 2019 income to determine their credits rather than their 2020 income.
But that fix hasn't been widely reported, said Leigh Phillips, chief executive of SaverLife, a nonprofit that encourages working families to save. Not everyone uses up-to-date tax software or well-informed tax preparers, and Phillips worries that many eligible people won't learn about it before filing their returns. The IRS will begin accepting returns Feb. 12.
In typical years, tax refunds equal almost six weeks' take-home pay for the average recipient, the institute found. Last year the average refund was more than $2,500.
The maximum credit for working families with three or more children is $6,660 for 2020, and it's refundable, which means filers get the money even if they don't owe any tax.
The amount you can earn and still qualify rises with family size, so that a married couple with three or more children could get a partial credit with adjusted gross income up to $56,844. A single person without children may qualify for a small credit with an adjusted gross income up to $15,820. Meanwhile, the regular child tax credit for children under 17 is $2,000 and not refundable.
If you might qualify for one of the tax credits, make sure your tax software or tax preparer looks at both your 2019 and 2020 incomes before submitting your return. If you find out too late that you could have received a bigger refund, you can file an amended return, but you may face a longer wait. Instead of getting your refund in a few weeks, an amended return can take up to four months to process.
Going forward, President Joe Biden has proposed one-year expansions of the credits as part of his coronavirus relief package. He also wants to increase the child tax credit to $3,000, plus an extra $600 per child under age 6.
Liz Weston writes for NerdWallet. E-mail: email@example.com. Twitter: @lizweston.