The tax credit fix many can’t afford to miss

Families battered by the pandemic recession soon may discover that the tax refunds they’re counting on are dramatically smaller — or that they actually owe income tax. Congress offered a partial solution, but the fix hasn’t been widely publicized, consumer advocates say.

Refunds are crucial to many lower- and moderate-income households, which use the money to catch up on bills and medical treatments, pay down debt and boost savings.

But 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 — and many people who lost jobs either didn’t know their unemployment checks would be taxed, or they decided against withholding. (Relief checks, such as the $1,200 sent out last year, are not taxable.)

Further, unemployment benefits are not earned income and so don’t count toward two crucial tax benefits that keep millions of working families with children out of poverty: the earned income tax credit and the additional child tax credit.

“If you’re a single parent or a couple with kids living on, say, $25,000 a year, you might see 25% or more of your annual income in the form of your federal tax refund because of these credits,” says Timothy Flacke, executive director of Commonwealth, a nonprofit that promotes financial security.

There’s a fix on credits, but not enough people know about it

There isn’t an easy workaround for tax refunds shriveled by inadequate withholding. But Congress provided a potential 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, says Leigh Phillips, chief executive officer 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.