Whether you are moving to another employer because of a new opportunity or because you were laid off from your previous position, changing jobs can have major tax implications, both for the amount of taxes owed in the year you start a new position, and for your long-term retirement planning.
When leaving your previous job, keep in mind that any severance pay you receive from your former employer is taxable in the year you receive it, as is any accrued vacation or sick pay you collect upon departure. Unemployment insurance benefits and extended benefits are generally considered taxable income. While applicants for unemployment benefits are offered the option of having income taxes automatically withheld from their unemployment benefits, a decision not to withhold could mean a large tax bill the following year.
When you start your new job, you will have the chance to adjust your income tax withholding. To avoid overpaying or underpaying, take the time to carefully read the instructions for the tax withholding form for your new employer. Using worksheets or the withholding calculator on the IRS website can help you determine more accurately how many allowances you are entitled to claim.
If you had a 401(k) or similar retirement plan with your previous employer, you will have to decide how to handle your savings when changing jobs. In almost all cases, cashing in your 401(k) account is the least desirable of your options. Distributions from 401(k)s or IRAs before age 59½ are usually taxable, and are subject to an early withdrawal penalty of 10%. If you are satisfied with your previous employer’s 401(k) plan and have more than $5,000 in your account, you may choose to leave your savings in the plan, where it will continue to grow on a tax-deferred basis.
After investigating your options, you may find that it makes more sense to move your 401(k) balance to your new employer’s 401(k), assuming the plan accepts rollovers and offers an attractive range of investment choices, or to an IRA. By rolling over your savings from your former employer’s 401(k) plan to an IRA, you may have more freedom to choose your investments, and opportunities for taking penalty-free early distributions may also increase. For example, you are generally permitted to withdraw money from an IRA penalty free to cover the cost of health insurance premiums if you have been collecting unemployment compensation for at least 12 weeks, or to pay for qualified higher education expenses, or for the purchase of a first home. You may also want to consider rolling over your 401(k) savings into a Roth IRA instead of a traditional IRA. While you will have to pay tax on the amount rolled over into a Roth IRA, all withdrawals in retirement will be tax free.
As a result of the Tax Cuts and Jobs Act of 2017, job-search-related expenses and job-related moving expenses will no longer be deductible on an individual’s Federal income tax return for tax years after December 31, 2017 and before January 1, 2026.
Because of the generous capital gains exclusion on selling a primary residence, it is unlikely that you will owe Federal taxes if you have to sell your home when changing jobs. If you owned and lived in the house you are selling for two of the five years prior the sale, you are generally permitted to exclude from your taxable income up to $250,000 of the capital gain if you are single, or $500,000 of the gain if you are married and file jointly. So, even if you rented out your home for a period of time before selling it, the house still qualifies as your primary residence if you lived in it for at least two years out of the five years preceding the sale.