What Are the Tax Consequences of Losing Your Job?

What Are the Tax Consequences of Losing Your Job?


  • Learn how severance pay is taxed.
  • Find out more about the taxation of unemployment compensation.
  • Learn more about taxes and health insurance.
  • Find out how distributions from employer pension plans are taxed.
  • Learn more about protections offered for coronavirus-related distributions.
  • Find out what exclusions are available to you if you have to relocate and sell your home.

If you have lost your job, there are a number of tax issues you may encounter. How you deal with these issues can profoundly impact your taxes and finances. Fiducial has some of the typical issues related to tax treatment.

Severance Pay

Your employer may provide you with severance pay. Severance pay and payment for unused vacation time will be included in your W-2 income, and both are fully taxable.

Unemployment Compensation

If you do not find another job right away, you generally qualify for unemployment compensation. Unemployment benefits, both the regular benefits you receive from your state unemployment department and the enhanced unemployment payments during the COVID-19 emergency, are taxable for federal purposes. Your state of residence may or may not tax these benefits.

Want to minimize the tax you may owe when you file your 2020 tax return? Then, request federal income tax withholding of 10% of the unemployment benefit amount. Do that by submitting a Form W-4V (Voluntary Withholding Request) to your state’s unemployment office.

Health Insurance

Did you lose your job and have 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. Note: If you give up coverage, you may be subject to penalties in some states for not being insured.

  • COBRA Coverage – COBRA requires continuation coverage to be offered to covered employees, their spouses, former spouses, and dependent children when group health coverage would otherwise be lost. COBRA continuation coverage is often more expensive than the amount that active employees are required to pay for group health coverage because the employer usually pays part of the cost of employees’ coverage. In contrast, 102% of the total cost of COBRA can be charged to individuals receiving continuation coverage (the extra 2% covers administration costs). This coverage generally applies to private-sector employers with 20+ employees and state or local governments that offer group health coverage to their employees. Note: COBRA coverage only lasts 18 months.
  • Health Insurance Marketplace Coverage – When families lose existing health coverage, they may purchase health insurance through a government marketplace outside the normal enrollment window. In addition, depending on 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. This should help pay for the insurance.

If your coverage was already through a marketplace and not your employer, you should notify the Marketplace that you’ve lost your job and your income has decreased. You may be eligible for a higher advance premium tax credit. However, you should also advise the Marketplace once you are employed again. This way, the appropriate adjustment can be made to the advance premium tax credit amount. This may alleviate having to repay some of the credit when you file your 2020 return.

What Are the Tax Consequences of Losing Your Job?

Employer Pension Plan

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. You can transfer the funds to your IRA or take a distribution and roll it into your IRA within 60 days.

However, a tax trap exists here. For a distribution, the employer must withhold 20% for federal taxes. This means only 80% of the funds will be available to roll over. The remaining 20% will end up being taxable unless you can make up the difference with other funds.

In the event you ever want to roll those funds into a new employer’s retirement plan, those retirement distributions should not be comingled with other IRA accounts.

Should you be tempted not to roll the funds over, be aware that the distribution will generally be taxable. If you are under the age of 59½ there will also be a 10% early withdrawal penalty.

However, 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; they are taxed over three years and can be redeposited to an IRA or qualified plan within three years.

Home Sale

If you relocate and have to sell your home and have owned and occupied the home as your primary residence for 2 of the previous 5 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, you will be allowed a prorated gain exclusion because you have lost your job.

As you can see, there are a number of issues that may apply when a job loss occurs. This is even more relevant during the coronavirus emergency. Want to learn more about how these issues might affect your particular situation? Call Fiducial at 1-866-FIDUCIAL or make an appointment at one of our office locations. Ready to book an appointment now? Click here. Know someone who might need our services? We love referrals!

For more small business COVID-19 resources, visit Fiducial’s Coronavirus Update Center to find information on SBA loans, tax updates, the Paycheck Protection Program, paid sick and family leave, and more.