There are a number of ways that income taxes can be affected by the loss of a job. Below are descriptions of three common situations and information from the IRS about how they affect federal income taxes:
1. You get a new job but earn less than you did before: If you had a high income previously, where certain tax deductions were limited, you may no longer be subject to income-based phase-outs. If your income was more moderate before and is now reduced even further, you may be able to qualify for the earned income tax credit.
2. You lose your job and receive severance pay: Severance pay is taxable income, as are payments for accumulated vacation or sick time. You should ensure that enough taxes are withheld from these payments or make estimated tax payments to avoid a big bill at tax time and possible tax penalties.
3. You lose your job and receive unemployment compensation: Like severance pay, unemployment compensation payments are taxable. As with severance pay, you should ensure that enough taxes are withheld from these payments or make estimated tax payments to avoid a big bill at tax time and possible tax penalties.
Other possible ways that unemployment can affect income taxes include tax deductions for job search expenses, tax deductions for moving to a new job at least 50 miles from your home, and taxes on early withdrawals (prior to age 59½) from an IRA or 401(k). For additional information on tax topics, see the IRS Web site at www.irs.gov.
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