Many low- and moderate-income households no doubt were assisted greatly by enhanced federal unemployment insurance benefits that they received earli
Many low- and moderate-income households no doubt were assisted greatly by enhanced federal unemployment insurance benefits that they received earlier this year and would be thrilled to receive a second round—if Congress and President Trump ever agree on a new pandemic relief bill. But for many jobless workers and their families, those payments come with a catch: They may result in smaller refunds from tax credits such as the earned income tax credit (EITC), next spring.
Tax Treatment of Unemployment Benefits
The problem: Unemployment Insurance (UI) benefits are taxable income but do not count as “earnings”. That means these benefits can lower, but not raise, the EITC, potentially leaving some low-income families with an unwelcome surprise at tax time. People will owe income tax on UI benefits, because they may not have had any income tax withheld when their UI benefits were received. For many lower-income families, that will mean part of those UI benefits will be clawed back in the form of a reduced EITC. That’s a special problem since research shows low- and moderate-income families plan for that annual tax refund, thoughtfully allocating it in advance towards paying past-due bills and laying the foundation for future savings.
On net, many families will receive more government support from the combined enhanced UI benefits and a smaller EITC than from what they…