Preparing to File Your 2020 Tax Return? Act Early.
While many Americans continue to wait out the global pandemic, one activity that should not be delayed is preparing your tax return. In fact, this year, the smartest advice may be to get prepared early. With more than 153 million people having received stimulus payments in 2020, and tens of millions of people having received unemployment benefits, there are new tax implications to consider.
However, getting through tax season need not add insult to injury. While the IRS does have a few changes in store, they’re not as overwhelming as you might think. To get a jump on the 2021 tax season, here’s what to consider:
1. Your stimulus payment isn’t taxable. What’s more, you might be eligible for a tax credit.
The $1,200 in economic impact payments – plus $500 for qualifying children – that people received as a result of the CARES Act aren’t taxable and don’t count as income, according to the IRS. But you should keep a record of what you received, because you might be eligible for more, in the form of a credit or refund.
Do this to maximize your refund:
- Save IRS Notice 1444. If you received a stimulus payment in 2020, you also should have received this notice about two weeks later. You’ll want to keep this on hand when filling out your tax return.
- See if you’re eligible for a credit. The 2020 stimulus payments were made in connection with people’s previous tax returns, but your current filing status for 2020 may be different, making you eligible for a larger stimulus payment than you received. If so, you may be able to claim the Recovery Rebate Credit. To see if you qualify, fill out the Recovery Rebate Credit Worksheet that comes with the Form 1040 instructions.
2. Unemployment benefits are still taxable.
Unemployment benefits received last year are taxable and need to be reported. If you didn’t opt to have 10% of those benefits voluntarily withheld, nor did you make quarterly estimated tax payments, you’ll want to have funds set aside to cover this bill, which is due April 15.
If you haven’t yet saved for these taxes, you’ll want to think about what you could owe and begin preparing for that expense.
3. Tax rates haven’t changed, but the tax brackets have changed slightly.
Another tax change that may be in your favor: While tax rates haven’t changed from last year, the tax brackets have shifted by a few hundred dollars, accounting for inflation. The ensuing tax reduction isn’t much, but it’s something on the plus side.
4. Standard deductions have increased and a new deduction was added.
Another small piece of good news: The standard deduction has increased by close to 2%, again to account for inflation. It adds up to an additional $200 for single filers, making the deduction $12,400 for those who don’t itemize deductions.
- Should you itemize? It might make sense to itemize deductions instead of taking the standard deduction if your deductions add up to more. Itemizable deductions include medical expenses; interest on your home mortgage; and property, state and local income taxes.
- A new deduction for 2020 charitable giving. There are additional deductions and credits you can claim even when taking the standard deduction. This year, a new "above the line" deduction provided via the CARES Act allows you to write off up to $300 in charitable donations made via cash, check or credit card, as long as you have the proper receipts and documentation. Because this deduction reduces your adjusted gross income (AGI), it may also benefit you in relation to your tax bracket or income-based programs like Medicare.
5. Unused funds withdrawn from educational savings accounts could trigger taxes.
One unexpected tax liability to be aware of concerns withdrawals from college savings 529 plans or education savings accounts. You may have withdrawn funds to pay for college, but then had those payments refunded to you by schools that went remote or canceled classes.
You might owe taxes or possibly face penalties on the distribution if you didn’t use the funds for qualified educational expenses, roll them into another qualified account, or redeposit them within 60 days. For more information, review IRS guidelines on Qualified Tuition Programs and Chapter 8 of IRS Publication 970, Tax Benefits for Education.
6. Money withdrawn from retirement accounts also triggers taxes, but time is on your side.
If you withdrew funds from your retirement account in 2020, such as a traditional IRA or 401(k), you still owe taxes on those funds. But changes for the 2020 tax year – related to the CARES Act and the SECURE Act – may provide relief.
For withdrawals taken as a result of hardships related to the pandemic, the IRS is allowing people three years to pay the taxes or to redeposit the funds and get a refund on those taxes.
7. You can request extra time to file, but taxes are still due April 15.
The deadline to file your tax return was extended in 2020 because of the pandemic. However, that same extension is not being repeated. Tax returns must be filed by April 15, 2021, though you can apply for a filing extension, which also must be done by April 15. Even if you apply for an extension, owed taxes are still due by April 15.