When Is a State Tax Refund Considered Taxable Income?

by Herb Kirchhoff

    Normally, state income taxes are considered a deduction from taxable income. But your state income tax deduction in one year can turn into taxable income for the next year if you get a refund of state income taxes. Generally, you can’t do your state taxes until you do your federal taxes, so people normally deduct the state taxes withheld by their employer or the quarterly estimated payments they made, which may total more than they actually owe.

    A refund of state income taxes is an event called a recovery. A recovery occurs when you receive a return of money you deducted from your income in a previous year. The Internal Revenue Service doesn’t let you have your deduction and your recovery, too. That’s why the IRS requires that you add the state tax refund from last year to your taxable income for this year.

    The state revenue agency will send you a Form 1099G, Certain Government Payments, by Jan. 31 of the year following the year in which you received the state tax refund. For instance, if you received a state income tax refund in 2012, the state must send you a Form 1099G listing the refund amount by Jan. 31 of 2013. The state also sends a copy to the IRS.

    If you received a state income tax refund for a year when you took the federal standard deduction instead of itemizing, you don’t have to add the refund to your taxable income since you didn’t take a deduction for state taxes.

    Your state tax refund may be only partially taxable if your state refund exceeds the difference between your federal itemized deductions and your standard deduction in the current year. For instance, if your itemized deductions exceed your standard deduction by $1,000 and you got a $1,200 state tax refund, you would owe tax on only $1,000 of your refund. But if your state refund came to $900, you would owe federal income tax on the entire amount.

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    About the Author

    Herbert Kirchhoff has over 35 years experience as a newspaper and newsletter reporter, writer and editor, with 27 of those years spent on telecommunications industry policy issues. Kirchhoff has a B.A. in journalism from Rider University in New Jersey and has been published in the "Trenton (N.J.) Times" and in "Communications Daily" and State Telephone Regulation Report, Washington, D.C.

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