Tax refunds are an essential part of many households’ financial management. This money — nearly $3,000 each year on average — is key for paying off debt, shoring up emergency savings, and making purchases.

It is especially vital for low- and moderate-income households, past research has shown. But many of those same households have been hit the hardest by uneven wages in 2020, raising new questions about tax refunds this year.

As many as 2 million taxpayers could lose out on much-needed refund money stemming from income-based tax credits, analysis from Commonwealth showed. Unemployment income — which was collected by tens of millions of Americans last year — is taxed but does not count as earned income towards key tax credits, such as Earned Income Tax Credit (EITC) and CTC (Child Tax Credit). For many, this could result in a drastically lower refund when they need it most. And for some, it could result in an 80% reduction compared to last year’s refund.

“If you’re a single parent or a couple with kids living on, say, $25,000 a year, you might see 25% or more of your annual income in the form of your federal tax refund because of these credits,” Timothy Flacke, executive director of Commonwealth, told the Associated Press.

Experts point to a new ‘lookback rule’ passed by Congress in January that enables people who earned less in 2020 to use either their 2019 or 2020 income for filing in this tax season. That could help households maintain their expected tax refunds and continue to have a pathway to build emergency savings this year. Commonwealth has assembled guidance for organizations to help communicate the lookback provision.

Stimulus payments from the government are not considered taxable income, the IRS has said. The deadline to file a 2020 tax return is April 15, 2021.

Planning ahead for saving a tax refund

Even with provisions in place for maximizing tax refunds, there is still the question of how best to get tax refund money into savings. Financial Health Network’s John Thompson points people to Form 8888, available to all filers, which enables someone to do a split deposit for their refund and direct a portion of the refund into a spending account and a portion into a savings account, for example.

Other research from Common Cents Lab has shown that using a tactic like “pre-commitment” can boost savings rates for tax refunds. In plain terms, it means simply making a plan ahead of time about what to do with the money before it hits your account. Common Cents Lab explained to CNBC recently how it works: Money that has not yet hit a tax filer’s bank account is still “free money” psychologically and thus easier to stash away. That could help save a couple hundred dollars that otherwise could be spent.

“No one likes thinking about filing taxes,” said behavioral researcher Perry Wright from Common Cents Lab. “But the challenges of the last year are demanding extra attention from us in so many areas of life and taxes are unfortunately not spared.”

For taxpayers, Common Cents Labs offers these actions for maximizing savings in this tax season:

1. If I earned less in 2020 than 2019, will the lookback rule described above help my family maximize our refund? To check, gather your 2019 documents from last year’s filing. Follow the steps on your new tax forms to check which year’s income to use to calculate your earned income tax credit and child tax credit. If you are using a tax preparer, bring your 2019 tax return and ask them about the “lookback” rule.
2. Do I receive my tax refunds electronically? If so, download form 8888 and save it with your documents.
3. Has the last year shown me the need to set aside some money for emergencies? If yes, open form 8888 right now and enter the routing and account numbers for your account that typically receives your refunds in 1(b) and the routing and account numbers for a savings account in 2(b) and commit yourself to entering 75% of your refund in 1(a) and 25% of your refund in 2(a) when you have completed your filing prep. Entering those account numbers now, combined with pre-committing to splitting the refund, will make it much easier to successfully file for the split when you are finalizing your filing.

BlackRock’s Emergency Savings Initiative

BlackRock announced a $50 million commitment to help millions of people living on low to moderate incomes gain access to and increase usage of proven savings strategies and tools – ultimately helping them establish an important safety net. The size and scale of the savings problem requires the knowledge and expertise of established industry experts that are recognized leaders in savings research and interventions on an individual and corporate level. Led by its Social Impact team, BlackRock is partnering with innovative industry experts Common Cents Lab, Commonwealth, and the Financial Health Network to give the initiative a comprehensive and multilayered approach to address the savings crisis. Partners including UPS, Mastercard, MX, and Self Financial have joined BlackRock’s Emergency Savings Initiative to help their employees and customers take the essential first step toward long-term financial well-being.