State Inflation Relief Stimulus Checks Could Be Taxable: Will The IRS Tax Your Relief Payments?

stimulus check

2021 marked the end of the regular stimulus check from the federal administration. Other reliefs from Washington, including the expanded Child Tax Credit stimulus check and other forms of relief, were also stopped as the Biden administration came up against an inflexible opposition in the Republicans.

But 2022 was in many ways worse than the previous year for many Americans, especially in the low and moderate-income groups. The end of 2021 marked the start of an increase in the price of goods and services. Every product and service starting from gasoline to groceries experienced a steep rise in prices as inflation touched record levels.

For the first time in over 4 decades, inflation figures crossed the 8% mark and by the end of the first quarter had already crossed the 8.5% mark. It continued at that rate and even touched 9.1% in June 2022, the highest since November 1981.

The post-pandemic period had seen a healthy increase in average wages. But the rise in prices at a relentless rate ensured that people were facing a drop in wages in real terms for the first time.

The average increase in wages of around 3.5% was negated by an over 8.5% rise in the prices of essential goods. Within weeks of the unprecedented situation, states started to step in to help out their residents during this critical juncture.

Starting with Maine and New Mexico, people fell back on surplus budget funds and especially the American Rescue Plan Act funds that were allotted to states, and local and tribal bodies. These funds came in handy to send out various forms of immediate relief to state residents. States gave out support to residents in the form of direct stimulus checks, paper checks, debit cards, gas and transit cards, income tax rebates, many payable in advance, sales tax waivers, and other forms of inflation relief payments.

Will The IRS Tax The Income From The State Stimulus Checks?

The federal stimulus checks, all three rounds post the pandemic, were not taxed by the authorities. The Internal Revenue Service did not consider stimulus payments under the CARES Act (the first stimulus check), the Coronavirus Response and Relief Supplemental Appropriations Act (the second round), and the American Rescue Plan Act, which was the most elaborate and comprehensive of the three acts.

stimulus check
stimulus check 2023 for Chicago

The Rescue Plan allocated the third stimulus check or the economic impact payment. It also allotted a huge sum to state, local, and tribal bodies for use in pandemic-related purposes.

It was this fund that most states have relied upon to give out inflation relief payments to residents in 2022 when the direct federal funds in the form of stimulus checks were no longer forthcoming.

State Stimulus Check Timely But Not As Generous As Federal Funds

The state inflation relief payments were not as generous as the federal funds for obvious reasons as they had a smaller budget to contend with. But with the economy opening up, even that relief was sufficient for residents of the 20-odd states that were beneficiaries of such relief payments. 

While most state stimulus checks were paid out in the first and second quarter of 2022, some states, including California and Colorado, timed their stimulus checks to coincide with the festive season.

The California Middle-Class Tax Rebate payments started in October and the initial round of payments went directly to the bank accounts of beneficiaries. These direct bank transfers were given to residents who received the Golden State stimulus checks I and II through this direct transfer method. Further, residents who filed their income tax returns for 2020 online also received their Middle-Class Tax Rebate stimulus checks through the online transfer of funds to their bank account.

Residents who filed offline through paper returns received their payments through debit cards that were mailed to beneficiaries through the US Postal Services.

The payments took around two weeks after they were mailed to reach the beneficiaries. This further delayed the process. The payments were scheduled to end by the second week of January but have been delayed for several reasons and are expected to continue through February 2023.

stimulus check

Residents received between $200 and $1,050 depending on the Adjusted Gross Income of state income tax filers, the filing status of the residents, and also the inclusion of dependents in their income tax return for 2020. Only residents who filed their 2020 state income tax return by October 17, 2021, are in line for the payments.

The Stimulus Check And Income Tax

As far as the three rounds of the federal stimulus check were concerned, the payments were not considered income by the IRS. Instead, it was simply held as an advance payment of a tax credit. so neither of the stimulus checks from the federal administration was taxable according to the Economic Impact Payment information.

So it is obvious that in general stimulus checks are usually not subject to state or federal taxes by the government that issues them. For instance, the Middle-Class Tax Refund checks issued by California are not subject to taxes by the state just as the federal economic impact payments were tax-free.

But the issue can get complicated when the issue of taxability comes up across jurisdictions. The IRS might consider the purpose and the nature of the relief package given out by each state to determine if they should be subject to federal taxation. For instance, that means the type of relief that was provided by California could come under the purview of federal taxes.

Professor Anette Nellen an expert in taxation programs, says that the design of the law that led to the California Middle-Class Tax Rebate payments makes it difficult for the IRS to provide income tax relief that residents would be seeking.

Nellen said that while state laws have added a provision that the payment was not a tax refund, there is also an added statement that the relief funds are more than pandemic relief. If it was stated that it was solely intended as a relief against COVID-19, it would have automatically remained outside the purview of federal tax laws and would have been tax-free.

A second reason that the Golden State inflation relief could be taxed by the federal authorities is that individuals with high income are also beneficiaries of the tax relief. This could automatically mean that no one receiving stimulus checks under this particular program will be eligible for relief under the general welfare exclusion category.