IRS urges tax pros to combat unemployment identity theft fraud

The Internal Revenue Service is asking tax professionals to help clients who fell prey to identity thieves who have been filing unemployment claims in their names during the pandemic.

The IRS has been working with state tax agencies and the tax prep industry as part of an effort known as the Security Summit. They reported that unemployment compensation fraud was one of the more common ID theft schemes that emerged last as criminals exploited the COVID-19 pandemic and the resulting economic impact. The fraudsters filed claims for the generous expanded unemployment benefits that the federal government began offering last year in conjunction with state unemployment agencies in response to the outbreak of the pandemic. The U.S. Department of Labor's Inspector General estimated approximately $89 billion in unemployment compensation was lost last year due to fraud. The Pandemic Unemployment Assistance and Pandemic Unemployment Emergency Compensation programs are slated to end on Sept. 6, although some states have already dropped out of the federal programs in hopes of encouraging more people to return to the workforce and fill open jobs.

The IRS and its partners in the Security Summit have been conducting a public awareness campaign this summer among tax professionals, aimed at encouraging them to do more to protect client data against identity theft. "Identity thieves always look for opportunities, and the unemployment surge presented a new opportunity to exploit the pain and financial hardships faced by Americans," said IRS Commissioner Chuck Rettig in a statement Tuesday. "This particular scam is especially egregious because 23 million Americans were jobless or underemployed last year and desperately needed these benefits."

Andrew Harrer/Bloomberg

Unemployment compensation is considered to be taxable income by the federal government, although Congress waived the tax for 2020 for many people. States report compensation to the individual and to the IRS by using the Form 1099-G. But because of fraud and identity theft, many taxpayers were surprised to receive Forms 1099-G in the mail for unemployment compensation they did not receive. Some taxpayers received forms from multiple states. In contrast, millions of legitimately unemployed people had trouble accessing unemployment benefits, while fraudsters reaped billions of dollars in benefits from the program, in some cases while operating from abroad.

The scam could affect 2021 returns next year as well as 2020 returns this year, the IRS noted. Here are a few steps tax pros should take to assist clients who are victims of the unemployment compensation fraud scheme, according to the IRS:

1. File a Form 14039, Identity Theft Affidavit PDF, only if an electronically filed tax return rejects because the client's Social Security number has already been used. Do not file the IRS Form 14039 to report unemployment compensation fraud to the IRS.
2. Report the fraud to state workforce agencies, and request a corrected Form 1099-G. Each state has its own process for reporting unemployment compensation fraud. The U.S. Department of Labor has created an information page with all state contacts and other information at DOL.gov/fraud.
3. File a tax return reporting only the actual income received. State workforce agencies may not be able to timely issue a corrected Form 1099-G. Even if the client hasn’t received a corrected Form 1099-G, report only wages and income received and exclude any fraudulent claims.
4. Consider advising clients to get an IRS Identity Protection PIN. Clients receiving Forms 1099-G are ID theft victims whose personal information could be used for various criminal activities, including the filing of fraudulent tax returns. All taxpayers who can verify their identities can now get an Identity Protection PIN to protect their SSNs. For more about IP PINs, check out IRS.gov/ippin.
5. Follow Federal Trade Commission recommendations for ID theft victims. Taxpayers should consider steps to protect their credit and other actions outlined by the FTC. The DOL also includes this information on its DOL.gov/fraud page.
6. Finally, tax professionals' business clients can help combat unemployment compensation fraud by responding quickly to state notices about employees filing jobless claims, particularly when there’s no record of those employees.

While unemployment compensation is taxable, the American Rescue Plan Act of 2021 provides an exclusion of unemployment compensation of up to $10,200 for individuals for tax year 2020. In the case of married taxpayers filing a joint Form 1040 or 1040-SR, the exclusion is up to $10,200 per spouse.

To qualify for the exclusion, adjusted gross income needs to be under $150,000. That threshold applies to all filing statuses.

The exclusion could reduce the burden from many identity theft fraud victims, but victims who received Forms 1099-G from multiple states could have fraud claims that exceed that exclusion amount. Clients should hold onto any records of fraud reports to states.

Tax pros can also get advice on security by reviewing the IRS’s recently revised Publication 4557, Safeguarding Taxpayer Data PDF, as well as the National Institute of Standards and Technology’s Small Business Information Security: The Fundamentals PDF. The IRS Identity Theft Central pages for tax pros, individuals and businesses contain important information as well.