Sidney Kess ()
The jobs market has heated up—the unemployment rate is down to 4.5 percent as of April 9, 2017—and many workers are voluntarily changing jobs to obtain better positions. Still, many companies, including a number of big retailers, are laying off workers, forcing these workers to seek new employment opportunities. The Bureau of Labor Statistics has found that workers have more than 11 jobs during their careers (https://www.bls.gov/nls/nlsfaqs.htm#anch41). What does changing jobs mean from a tax perspective?
The cost of relocating for work opportunities may be tax deductible (Code §217). The move must be work-related and two tests are met:
Distance test: The new workplace must be at least 50 miles farther from the old home than the old job location was from the old home.
Time test: An employee must work full-time for at least 39 weeks during the first 12 months immediately following the arrival in the general area of the new job location. (There’s a different test for those who are self-employed.) The time test does not have to be met with employment in the new location with the same employer. There is no problem if the time test is not met because of disability or death, or because the employee is transferred for the employer’s benefit or laid off for a reason other than willful misconduct. In these circumstances, the time test is deemed to have been met.
The time test can be tricky. For example, in a recent case, a person who lost his job in Pennsylvania moved to California for a job opportunity. He arrived in California in March but did not sign a one-year employment agreement until June and began working in the middle of July (the critical date for the time test). The Tax Court said he failed the time test because he did not work 39 weeks within the one-year period of the move (Anderson, TC Summary Opinion 2017-17).
Deductible costs. The deduction for moving costs, which is an adjustment to gross income (no itemizing required), includes the cost of moving household and personal effects as well as transportation and lodging (but not meals) in traveling to the new home. Driving a personal vehicle for moving purposes is deductible using the IRS standard mileage rate, which is 17 cents per mile in 2017 (Notice 2016-79).
Reimbursements. As a job inducement, some companies pay for relocation costs, either directly or as a reimbursement to the employee. This benefit is tax free to the employee if it would have been deductible by him or her (i.e., of the moving deduction tests described earlier are met) (Code §132(g)).
Today, health coverage is a key factor in job selection for many individuals. For someone without current company coverage, finding work with a company that offers employer-provided coverage is a job inducement.
If an employee who currently has company-provided health coverage leaves the job, several things can happen:
Changing to a new employer’s plan. If an employee changes jobs and the new employer offers coverage, the worker usually goes on the new employer’s plan. However, the new plan may have a waiting period. Even applicable large employers (ALEs)—those with 50 or more full-time/full-time equivalent employees that are required under the Affordable Care Act to cover full-time employees (unless repealed)—can have an “orientation period” of 90 days before which employer coverage begins (DOL Final Rule at http://webapps.dol.gov/FederalRegister/HtmlDisplay.aspx?DocId=27660&AgencyId=8&DocumentType=2). An employee caught in this limbo may need to seek other coverage options.
COBRA coverage. An employer with 20 or more employees that has a company health plan must offer health continuation coverage to a worker who leaves the job, whether voluntarily or involuntarily (other than for gross misconduct). The cost of this coverage usually runs 18 months. In some situations, employers may pay for this coverage for some months (e.g., three months), but this does not extend the COBRA period.
Changing to spousal coverage. Whether or not COBRA is available, it may be preferable for a worker leaving a job to go on a spouse’s plan from the spouse’s employer. The cost may be less than COBRA, and even less than the employee’s cost through his/her new employer’s plan.
Obtaining individual coverage. Even if COBRA is available, it may be too costly for some individuals. At present, there is an opportunity to obtain coverage through a government marketplace that is subsidized; this subsidy is the premium tax credit (Code §36B).
Like health coverage, access to a qualified retirement plan is an important feature of a job package. Assessing participation rules at a new company is essential.
When an employee has participated in a company retirement plan and leaves the company, there are several possible actions:
Leave benefits in the company plan. An employee may want to use this choice where the plan’s investment options are desirable. It also affords maximum asset protection (see Patterson v. Shumate, S.Ct., 504 U.S. 753 (1992)). However, an employer can involuntarily cash out benefits in a defined contribution plan (e.g., 401(k)) if the account is $5,000 or less (Code §411(a)(11)(A)). The cash out is done by transferring the funds to an IRA and providing notice to the employee about the transfer (Notice 2005-5). However, the funds can be transferred directly to the employee’s IRA or a new employer’s plan, if such plan accepts the transfer.
Cash out. It has been estimated that 30 percent to 40 percent of those leaving a job cash out their accounts. Cashing out benefits means not only the loss of retirement savings, but also a current tax bill. The cashed out benefits are immediately taxable. What’s more, unless the employee is at least 55 years old (a special age rule for “separation from service”), there is a 10 percent penalty (Code §72).
If an employee has a loan from a retirement plan outstanding when he/she leaves the job, the loan must be repaid within a reasonable time set by the plan (usually 90 days or less). If the loan is not repaid in this period, it is treated as a taxable distribution.
Rollover. An employee can opt to roll over his/her account to the plan of a new employer (if the new plan accepts the transfer) or to an IRA. Using the rollover option (or a direct trustee to trustee transfer) is advisable if the employee can gain access to a better choice of investment options.
However, if the account includes employer stock, it may be preferable to take a distribution of the stock. This is because the net unrealized appreciation (NUA)—the difference between the price paid for the stock and its current value—is all that is taxable when the stock is sold, and it is taxable at capital gain rates (Notice 98-24). By distributing the stock, the distribution is taxable only on the stock’s value when it went into the employee’s account. In other words, taking a distribution and paying some tax now enables the conversion of appreciation into capital gains.
Other Fringe Benefits
An employee who changes jobs may need to make decisions about other employee benefits:
• Medical FSAs: If the employee has a balance remaining, he/she can use it up by submitting claims for out-of-pocket expenses. Usually there’s a window (e.g., 90 days) to do this, but the medical services or costs must have occurred prior to termination. If the employee received more from the plan than was contributed by the time of departing the company, usually there is no payback required (Prop. Reg. §125-5(d)).
• Dependent care FSAs: As in the case of medical FSAs, those for dependent care may have a spend-down provision that allows for the submission of expenses within a period after employment for costs before termination. In other plans, contributions are lost upon termination.
• Life insurance: determine whether group life coverage can be converted into an individual policy if desirable.
• Disability insurance: determine whether a long-term disability policy can be continued by the individual paying the premiums.
In today’s hot job market, many employees are leaving their companies and finding new employment. There are a lot of practical and tax issues to consider when changing jobs.