What are the tax ramifications of losing a job?
Posted on October 11, 2020
First and foremost, losing a job is tough to go through, emotionally as well as financially. But unfortunately, you will need to deal with the tax impact of your changed financial situation. And, like so many other things related to finances and taxes, the way you deal with this matter can profoundly affect your bottom line.
Here is what to consider from the tax professionals at Teipen CPA Group:
Severance Pay is certainly helpful. If your employer provides you with severance, this pay as well as payment for any unused vacation time will be included in your W-2 income, and yes, this is fully taxable.
Unemployment Compensation or unemployment benefits must be signed up for, on line. Both the regular benefits you receive from your state unemployment department as well as any COVID-19 emergency government-issued payments are taxable.
You can take steps when you sign up for unemployment to minimize the tax you may owe when you file your 2020 tax return by requesting federal income tax withholding from each check. Do this by submitting a Form W-4V (Voluntary Withholding Request) to your state’s unemployment office.
Health Insurance sometimes follows you into unemployment, and sometimes does not. If you lose your job and you had health insurance through your employer’s group health coverage plan, you will need to determine your available options for continued coverage via COBRA or a replacement policy.
Here are some health insurance options:
- COBRA Continuation Coverage is set up as continuing health coverage when group health coverage would otherwise be lost. It is offered to former employees, their spouses, and dependent children. Unfortunately, COBRA Continuation coverage is often more expensive than the original employees’ coverage. In most cases, COBRA coverage is limited to 18 months.
- Health Insurance Marketplace Coverage includes health insurance through a government health insurance marketplace. Depending upon your income for the year, you may qualify for the premium tax credit for the part of the year when you don’t have coverage through your employer. If you qualify, the government will help pay for this insurance.
- What if you had Marketplace insurance before losing your job? Be sure to notify the Marketplace of this change, as with decreased income, you may be eligible for a higher advance premium tax credit. Once you are employed again, another adjustment can be made – which may keep you from having to repay some of the credit when you file your 2020 tax return.
Employer Pension Plans can vary widely. Depending upon the provisions of your employer’s pension plan, you may have the option of leaving your retirement funds in the employer’s plan or moving the funds to your IRA account. Be sure to have the funds transferred to your IRA or take a distribution and roll it into your IRA within 60 days.
However for a distribution, your former employer is required to withhold 20% for federal taxes, meaning only 80% of the funds will be available to roll over and the remaining 20% will end up being taxable unless you can make up the difference with other funds.
Teipen CPA Group wants to be sure you know that even if funds are very tight, if you elect not to roll the funds over, be aware that the distribution of funds will be taxable. In addition, if you are under the age of 59½ there will also be a 10% early withdrawal penalty.
There is one helpful caveat: The CARES Act allows qualified taxpayers to make COVID-19-related distributions from qualified plans or IRAs (not to exceed $100,000 from January 1, 2020 to December 31, 2020) and receive favorable tax treatment. These distributions are penalty-free. Instead, they are taxed over three years and can be re-deposited to an IRA or qualified plan within three years.
What if you sell your home? If you relocate and have to sell your home and have owned and occupied the home as your primary residence for two of the previous five years, you will be able to exclude up to $250,000 of the gain ($500,000 if you are married and you and your spouse qualify for the exclusion).
If you do not meet the 2-out-of-5-years qualifications and have lost your job, you will be allowed a pro-rated gain exclusion. Your CPA can help you apply for this.
Even though there will be a lot on your plate after a job loss, it makes sense to understand the tax issues ahead and be prepared. To learn more about each of these issues and how they may affect your situation, don’t hesitate to contact our office. We would be happy to help.