7 Things You Need to Know Before You File Your Taxes This Year
The IRS announced they would start accepting tax returns on February 12th this year. That's about three weeks later than normal. A big part of the delay has to do with last-minute laws passed at the end of 2020 that required updates to tax forms and the IRS's internal programming. Here are a few updates you won't want to miss.
1. Unemployment Tax Surprise
One of the biggest benefits that the government provided to the American people through the pandemic was enhanced unemployment benefits. For several months, many of you received an additional $600 per week in unemployment benefits on top of ordinary unemployment payments. This income will be fully taxable on your federal tax return, but tax-free on your California tax return.
You may not be worried about taxes on your unemployment income because you chose to have taxes withheld from your payments. However, this is where most people will be caught off-guard.
For those who elected to have taxes withheld from unemployment, the California EDD only withheld taxes on the regular unemployment benefits and withheld nothing for the $600 additional benefits. Later in the year, when a $300 additional benefit was provided, the same withholding method was used by the EDD. We don’t know why taxes weren’t withheld on all unemployment income, but be prepared to pay those taxes when you file this year.
2. Can You Increase the Size of Your Stimulus Check?
Another provision provided by the government early in 2020 were direct payments up to $1,200 per individual plus $500 per child. A later round of direct payments mostly distributed in January of 2021 worth $600 per individual and child is still being distributed. These payments are not taxable. However, if you received a reduced payment or no payment due to 2018 or 2019 income, you may be entitled to an additional amount when you file your 2020 return. So be sure to provide the amount of your stimulus payment when you file your taxes.
3. Taxes and Penalties on Early Retirement Account Withdrawals
Americans were granted some relief under the Cares Act that helps lower the tax bill for those who decided to take an early withdrawal from their retirement accounts last year. Unfortunately, those withdrawals will count as taxable income. The Cares Act provides two areas of relief. First, the additional 10% federal penalty and the 2.5% California penalty on early withdrawals will be waived. Secondly, taxpayers will have the option of spreading the taxation of their early withdrawal over the next three years. For example, if you withdrew $15,000 in 2020, you’ll have the option to report $5,000 each year in 2020, 2021, and 2022 instead of being taxed on the entire $15,000 in one year.
4. Deducting Charity Even if You Don't Itemize
The Cares Act provides a special provision to allow small charitable deductions without the need to itemize deductions. Therefore, taxpayers who usually take the Standard deduction can also take a small charitable deduction. The deduction amount is limited to $300 per tax return. Donations must be monetary because donated goods are not eligible.
5. Choose Either 2019 or 2020 Earned Income to Calculate Earned Income Credit and Child Tax Credit
Due to wild changes in income for most Americans, the Cares act allows taxpayers to calculate their Earned Income Credit and Additional Child Tax Credits based on either their 2019 income or their 2020 income. The Earned Income Credit and Additional Child Tax credit require minimum amounts of earned income from a taxpayer before they can claim either credit. Unemployment benefits do not count as earned income. Therefore, if a low-income taxpayer only had unemployment income in 2020, they would ordinarily be excluded from claiming either credit. Allowing the election to use 2019 earned income for the purposes of claiming these two credits(assuming their 2019 income was relatively low), will be a godsend for many hard-up low-income families.
6. It's Baaaack! Penalty for No Health Insurance and Additional Covered California Tax Form
2020 marked the first year of California’s additional health insurance subsidy. Along with the subsidy comes a return of the uniformly loathed penalty for not having insurance. The penalty is $750 per adult and $375 per minor or 2.5% of your income, whichever is higher. If you did have insurance and you were a California subsidy recipient, you’ll need to review your Covered California account to find the new FTB 3895 form. You will need this new form as well as form 1095-A in order to file your tax return.
7. PPP Loans and Taxes
The Paycheck Protection Program (PPP) provided loans to small businesses that could be partially or totally forgiven depending on what the funds were used for. While the loans do not count as taxable income, the loans may still factor into your 2020 tax return.
Expenses paid with PPP loans will be deductible on your federal taxes but cannot be deducted on your California return. Unless California agrees to conform to the federal law on this topic, a special adjustment will need to be made on your tax return. PPP loans for self-employed(sole-proprietors) won't need to worry about this adjustment as their loans are based on business profits, not expenses.