A record 4.4 million Americans left their jobs in September 2021, more than the previous record set the month before. It’s a phenomenon that has been dubbed “The Great Resignation”.
Evidence suggests that many of those who have left the workforce intend to return. This certainly confirms in my conversations. Most of my friends and colleagues who quit their jobs did so out of frustration, exhaustion, or worrying about a lack of work-life balance. They will eventually return to work, they assure me, they are simply aiming to reassess their life choices after the pandemic.
Statistics seem to corroborate these anecdotes. Data indicating these massive quits also show rapid hiring patterns. In September, the same month that the number of resignations reached 4.4 million, new hires reached 6.5 million.
Of course, not everyone leaves and comes back immediately: some return to the workplace a little more slowly. Choosing to sit down for a few weeks, months, or maybe years begs the question: how are you going to pay the bills?
Americans are not known for their rainy day economy. According to the Federal Reserve, U.S. households had a median balance of $ 5,300 – and an average balance of $ 41,700 – in savings accounts, checks, money market and bank calls, including prepaid debit cards, in 2019 .
So what comes next? Here is an overview of some of the options available and their tax consequences.
I know, you’re surprised to see this on the list. It is true that many employees who leave their jobs are not eligible for unemployment, but not all. Why you are quitting your job matters, and quitting for a “good cause” can always lead to benefits, depending on your condition.
If you are eligible for unemployment benefits, you should understand that for federal income tax purposes these benefits are considered as compensation and are taxable. A recent change in the law excluded up to $ 10,200 in unemployment benefits from tax for taxpayers whose modified adjusted gross income (AGI) is less than $ 150,000. However, this exclusion was only effective for 2020. Amounts paid in 2021 and beyond remain fully taxable, unless further push from Congress.
Depending on the company, you may be entitled to severance pay when you quit your job, even if you do so voluntarily. For federal income tax purposes, most payments made as part of a separation or severance will be treated as wages, meaning they are generally taxable. Employers have certain options when paying wages, including how they calculate withholding tax. You’ll need to be careful to make sure you’ve withheld enough tax so that you don’t end up with a tax bill the following year.
A quick word of warning: depending on the amount of the payments, you may find yourself temporarily in a higher federal tax bracket. A little tax planning could go a long way here. It may be advantageous to split the payments into two years, assuming this is an option. Or, if you don’t need the money immediately, consider moving the funds to a tax-efficient retirement account.
Employees may want to access their retirement accounts as a way to make ends meet. Depending on your age and your situation, this could have significant tax consequences.
Withdrawing funds from a pension plan or IRA before age 59 and a half, or the plan’s normal retirement age, usually means that the money must be included in gross income and submitted. tax, plus an additional 10% distribution tax. To ensure that it receives its share of the tax payable, the IRS typically requires an automatic withholding of 20% of the amount early withdrawn from a retirement plan such as a 401 (k) plan, or 10%. % of amount early withdrawn from a traditional IRA. . This means that a withdrawal of $ 25,000 could leave you with only $ 20,000 on hand, and you will still have to pay the overages owed as well as the additional 10% tax at tax time.
After you reach age 59 and a half, you can usually receive distributions without paying the additional 10% tax. But that does not make the transaction tax exempt since you will still be responsible for paying the “normal” tax on the withdrawal.
Some exceptions apply to the additional 10% tax. The exceptions applicable to financial hardship include:
- You have unreimbursed medical expenses that represent more than 7.5% of your AGI;
- Distributions do not exceed the cost of your health insurance due to unemployment;
- Distributions do not exceed your qualified higher education expenses; Where
- You use the distributions to buy, build or rebuild a first house.
As for the exceptions for distributions linked to the coronavirus? A previous change in the law provided some relief, but only distributions made from January 1, 2020 to December 30, 2020 are eligible for the exception – 2021 distributions remain taxable.
Obviously, the rules related to retirement accounts can be tricky and fact-specific. Failure to follow these rules can result in unexpected tax bills. Although the IRS has online resources available—Pub 590-B is a good place to start for information about ARI. Don’t be afraid to ask for help.
Advance social security benefits
Employment data suggests nearly two million more seniors retired during the pandemic than one would normally have expected. This may make good financial sense for some, but don’t start dipping into Social Security without checking the numbers.
You can usually claim social security retirement benefits from the age of 62. But your monthly benefit is reduced if you start receiving benefits before your full retirement age.
The full retirement age is based on a formula. It is the age of 66 if you were born between 1943 and 1954, and it increases over time. For people born in 1960 or later, full retirement benefits are payable at age 67. You can find your full retirement age using the Social Security Administration. table of full retirement age.
Once you reach retirement age, whether your Social Security benefits are taxable depends on your deposit status and the amount of other income you receive. If your only source of income is your Social Security check, your benefits are generally not taxable. But if you receive income from other sources, your benefits are taxed if your amended AGI is greater than the base amount of your filing status. As a general rule, the higher your total income, the higher the percentage of your Social Security benefits subject to tax.
This means that claiming your benefits earlier, especially if you are still receiving compensation or other income from your employer, could result in both a lower monthly payment and a higher tax bill. A good tax advisor can help you decide when is the best time to apply for benefits in your situation.
Borrow against your house
With house prices soaring, you might be tempted to tap into your home equity with a home equity loan or home equity line of credit (HELOC). With these kinds of loans, you borrow against the equity in your home, using your home as collateral. This can be useful for homeowners who might otherwise not have the cash flow to pay their bills during a period of unemployment. Remember, under current law, you can no longer deduct interest on a loan secured by your home if you are not using the money to buy, build, or significantly improve your home. When you mentally calculate whether a home loan is worth it, don’t make the mistake of assuming that you can continue to deduct all the interest on the mortgage debt.
Personal credit cards and bank loans can be useful to help offset periods of unemployment, but they are not tax deductible. This may be obvious to younger taxpayers, but older taxpayers may still remember when credit card interest was deductible – this changed in 1986. Businesses can still deduct interest on loans, including interest on credit cards, but you cannot deduct the interest you paid on personal loans. If a loan is partly business and partly personal, you must divide the interest pro rata between personal and business use.
The bottom line
Ultimately, there can be lots of reasons to quit your day job, but make sure you have a well-thought-out plan for paying your expenses. Do not assume that all resources are equal: the tax consequences may vary depending on your age, your reporting status and your personal situation. It’s always a good idea to check with your tax advisor if you have any questions.
This is a weekly column by Kelly Phillips Erb, the Taxgirl. Erb provides commentary on the latest tax news, tax law and tax policy. Find Erb’s weekly column in Bloomberg Tax and follow her on Twitter at @taxgirl.