The Internal Revenue Service (IRS) has issued new guidance regarding the federal tax treatment of various state payments and refunds, expanding the tax-free treatment of stimulus check payments to those received in 2023.
The new guidelines, issued on Aug. 30, build on and clarify previous guidance issued on Feb. 10, which said that most relief checks issued by states in 2022 didn’t need to be reported on 2022 tax returns.
While the previous guidance only described the taxability of pandemic relief payments, and certain other types of made in 2022, the Aug. 30 guidelines address their taxability in 2023 and apply a similar tax-free status to payments received this year.
“This means taxpayers who did not get a payment under the program during 2022 may exclude from federal income a state payment provided under the 2022 program but actually received in 2023,” the IRS said in a statement.
Besides allowing stimulus check payments to be tax-free in 2023, the IRS has also provided a detailed description of the rules it uses to determine the federal tax consequences of stimulus checks and other payments or refunds.
In general, the IRS said that determinations that state payments qualify for exclusion from federal gross income, and therefore from federal income taxes, fall under the general welfare doctrine or because they were disaster relief payments.
Stimulus Check Tax Exemption Details
In 2022, a number of states implemented programs to provide payments to residents, with many of these programs related to the COVID-19 pandemic and its impacts.In a statement issued on Feb. 10, the IRS said that most relief checks issued by states in 2022 aren’t subject to federal taxes.
“The IRS has determined that in the interest of sound tax administration and other factors, taxpayers in many states will not need to report these payments on their 2022 tax returns,” the agency said in the statement.
All told, taxpayers in 17 states don’t have to report last year’s stimulus checks, while in another four states, many people will be able to avoid paying federal taxes on their relief payments if they meet certain requirements.
Specifically, various forms of general welfare and disaster relief payments don’t have to be reported by taxpayers in 17 states: Alaska, California, Colorado, Connecticut, Delaware, Florida, Hawaii, Idaho, Illinois, Indiana, Maine, New Jersey, New Mexico, New York, Oregon, Pennsylvania, and Rhode Island.
In addition, four states were deemed special cases in terms of stimulus check taxability because they issued relief payments in the form of refunds of state taxes paid: Georgia, Massachusetts, South Carolina, and Virginia.
Relief payments from these four states—which came in the form of tax refunds—can be excluded from income for federal tax purposes, per the IRS guidelines. However, that’s only if the recipient either claimed the standard deduction or itemized their deductions, yet didn’t receive a tax benefit. That would be the case if the $10,000 tax deduction limit applied, for example.
State Tax Refunds and Other Payments
The latest IRS notice outlines the various types of state payments to individuals and delineates the corresponding federal tax treatment for each category.For the majority of taxpayers who receive state tax refunds, the refund amount does not need to be reported as income for federal tax purposes. This holds true especially for taxpayers who opt for the standard deduction on their federal income tax returns.
The IRS said that data from the tax year 2021 reveals that 90 percent of individuals chose the standard deduction instead of itemizing deductions.
However, taxpayers who itemize their deductions on their federal returns and receive state tax refunds are only required to include the refund as income if they had previously deducted the state tax payments.
Notably, taxpayers may be exempt from this requirement if they were unable to fully deduct their state taxes due to the $10,000 cap on itemized deductions for state income and property taxes.
Furthermore, the IRS guidance recognizes state general welfare programs, specifying that payments made by states under legislatively provided social benefit programs for the promotion of general welfare are not considered as income on a recipient’s federal income tax return.
To qualify for this exclusion, state payments must be sourced from a governmental fund, be intended to promote general welfare, and not serve as compensation for services rendered.
The latest notice also addresses the tax treatment of disaster relief payments, clarifying that those made by federal, state, or local governments in connection with a qualified disaster to promote general welfare are not included in an individual’s federal gross income.
A qualified disaster is defined as one declared by the U.S president for assistance under the Stafford Act.
The COVID-19 pandemic was considered a federally declared disaster due to presidential emergency declarations on March 13, 2020, and subsequent extensions.
President Joe Biden, on May 11, 2023, signed a joint resolution terminating the national emergency related to the COVID-19 pandemic.
