Starting this month, extended unemployment payments will drop by 10% to comply with sequestration. The cut needed is 5% of the annual amount, but the cut has to be compressed into 6 months, so that’s why the cut is doubled.
Since 1986, unemployment payments have been fully taxable as ordinary income. The exception is 2009, which provided a $2400 exemption of unemployment payments from federal tax as part of the stimulus package. If you didn’t take that exemption and you received unemployment payments in 2009, it is not too late. You have until 15 April to file an amended return. Amended returns are one of the simpler tax forms. All that you have to do is fill out the old and new numbers on Form 1040-X, which has to be filed as a paper return, and the IRS website has the form (www.irs.gov). You would get whatever taxes that you paid on that $2400 plus accrued interest from April 15, 2010 until the date that the form is reviewed and processed by the IRS. You also have the option of filing an amended state return if your state taxes unemployment benefits. If you are owed money at the federal level as the result of filing an amended return, it is common to be owed money at the state level.
The basic rule on filing amended returns is that you have three years from the time that the return was due to file the amended return. 2009 returns were due by April 15, 2010, so you have until April 15, 2013 to file the amended return. An interesting thing about failing to file a tax return is that it extends the amount of time that the IRS has to audit you. Suppose that you didn’t file your 2011 tax return until December 15, 2012, and you didn’t have an additional extension approved by the IRS. They would have until December 15, 2015 to audit your 2011 return. Normally, the deadline for an audit where the IRS does not suspect fraud on your part is three years from the time of filing. They can go back six years when they suspect fraud.
There was a huge jump in the number of tax returns with reported unemployment compensation between 2009 and 2010. 11.3 million tax returns reported unemployment compensation totaling $83.5 billion dollars. 2010 saw 14.3 million tax returns report a total of $120.3 billion in unemployment compensation. The higher average amount of unemployment compensation reported in 2010 may reflect the $2400 exemption, higher-income people losing their jobs, or some mixture of the two.
I don’t believe that unemployment insurance payments should be taxable income. We paid the UI premiums with after-tax money, so payments should come to us tax-free, much as health insurance payment to doctors. The argument for taxing unemployment payments is much the same as that for taxing Social Security: you didn’t pay taxes on the employer’s share of UI tax while you were working.