How to Report Taxable State Refunds on the New Form 1040

The rules are the same but tax returns have changed

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Waiting for your tax refund is usually a time of pleasant anticipation as you think about all you might do with that “extra” money, but this isn’t the case for all taxpayers. Some have to wonder how much that refund will end up costing them.

The Internal Revenue Service says that some state income tax refunds are taxable income. You must report them on your tax return on line 10 of Schedule 1, "Additional Income and Adjustments to Income," of the new 2018 Form 1040.

Is Your State Refund Taxable Income?

You might have to report the state income tax refund you received last year on your federal income tax return if you itemized your deductions on your federal return last year and you claimed a deduction for state and local income taxes. You must figure out the taxable portion of your state refund so you can report it.

The rule is pretty black and white, at least on the surface. If you claimed the standard deduction on your federal return last year, you couldn't possibly have itemized or claimed a state and local income tax deduction, so you’re in the clear.

You're also safe if you did itemize, but you didn't take an itemized deduction for state and local income taxes. This might be the case if you elected to deduct state and local sales taxes instead. You have that choice—you can deduct either income or sales taxes, but not both.

Your state refund isn't taxable in either of these circumstances. But if you didn't claim the standard deduction, and if you did claim a deduction for state and local income taxes, the question becomes more complicated. 

Narrowing It Down: Did You Claim the Standard Deduction?

Forms 1040A or 1040EZ for the 2017 tax year were still in effect when you filed in 2018. You claimed the standard deduction if you used either of these returns because they don’t give you the option of itemizing.

Otherwise, you might have itemized if you filed Form 1040. Look at your return to see if it includes a Schedule A. This is the form used to calculate your itemized deductions. If you completed Schedule A, you itemized. 

You should also be able to tell if you itemized by checking line 40 of your 2017 Form 1040. You almost certainly claimed the standard deduction if you entered $6,350, $9,350, or $12,700 in this space. These were the standard deduction amounts for single, head of household and married filing jointly taxpayers respectively in that tax year. This information appears on Line 8 of the new 2018 tax return.

Deducting Sales Taxes Instead

This brings us to the second rule. State refunds aren’t taxable even if you itemized if you opted to deduct state and local sales tax instead of deducting state income tax. Your refund is only taxable if you took a deduction for state income taxes last year. 

If you’re using the same software program you used last year, it might “remember” this information and might even be able to calculate the right amount of your taxable refund. Otherwise, look at line 5a of your 2017 Schedule A. Your refund isn't taxable if the box here for income taxes isn't checked.

It's the opposite for the 2018 Schedule A. You're in the clear if the box at line 5a is checked. This means you elected to deduct sales taxes.

Documents You Might Need

You'll need some information to accurately complete this year's state refund worksheet if you must report and pay taxes on your refund. This information can be located in a few documents: 

  • Form 1099-G from the state or states that sent you refunds
  • Your previous year’s state tax return, which shows the amount of the refund you received if you didn't receive a Form 1099-G
  • Your previous year's federal Form 1040 and Schedule A, which lists your itemized deductions 

Reporting the Income

You can calculate the taxable portion of your state tax refund by using the State and Local Tax Refund Worksheet included in the instructions for Form 1040 provided by the IRS. You must file this worksheet along with your tax return.

Some people might have to use Worksheet 2, Recoveries of Itemized Deductions, found in Publication 525 provided by the IRS. This worksheet is used when a taxpayer was impacted by the alternative minimum tax in the previous year and under a few other circumstances. It’s also used if you received reimbursements for any other itemized deductions you took in previous years.

After you calculate the taxable amount, state refunds are reported on line 10 of Schedule 1 of the new 2018 Form 1040.

Tax laws change periodically, and you should always consult with a tax professional for the most up-to-date advice. The information contained in this article is not intended as tax advice and is not a substitute for tax advice.