Filed under: Taxes, Unemployment, Social Security, Income Tax, Tax Laws
In particular, three tax rules can force you to pay extra taxes in situations where you might already be in a difficult position financially. Let's take a closer look at them to make sure you don't get blindsided at tax time.
1. Unemployment Benefits Are Taxable
When you lose your job involuntarily, unemployment insurance usually kicks in to replace at least some of your lost income. What many people don't realize, though, is that unemployment benefits are usually subject to income tax. In some situations, you're allowed to recover amounts you paid in nondeductible contributions to a government or private unemployment fund, but beyond that, benefits are almost always taxable.
What makes this particularly surprising is that welfare and public assistance benefits from government programs typically aren't subject to income tax. One rationale for the distinction is that welfare benefits are based upon need, while unemployment insurance benefits are meant to replace specific amounts of what would be taxable wages. Regardless, it's smart to consider having taxes withheld from your unemployment benefits to make sure you don't get hit hard with extra tax liability in April.
2. If You Had Debts Forgiven, You Might Owe Tax
Often, when people get into trouble with debt, they end up having to work at getting their lenders to forgive all or part of what they owe. If you're fortunate enough to have your bank forgive some of your debt, you won't see a dime -- but the IRS often treats the forgiven debt as taxable income and charges taxes on it.
There are many exceptions in which the tax law specifically says forgiven debt is not subject to tax, including debts discharged in bankruptcy or insolvency as well as forgiveness of qualifying debt on a farm, business real property, or a principal residence -- although this last provision expired as of the end of 2014. Certain student loan forgiveness is also exempt from tax. But in other cases, such as credit card debt forgiveness, you may well get a tax form showing your taxable income, and you run the risk of an audit if you don't include it on your tax return.
3. Social Security Benefits Are Sometimes Subject to Income Tax
Most people see their Social Security benefits as money they earned through paying payroll taxes throughout their careers. Yet for some taxpayers, a portion of benefits they receive from Social Security are included in their taxable income.
For single filers making more than $25,000 and joint filers with incomes of $32,000 or more, as much as half of your benefits can be subject to tax. Above the $34,000 mark for singles and $44,000 for joint filers, the taxable portion of your benefits goes up to as much as 85 percent. Some proposed legislation has suggested raising those limits in future years, but for now, they're hardwired into the tax laws -- and they don't adjust for inflation, suggesting that a rising number of U.S. senior citizens are likely to run into the provisions over time.
Motley Fool contributor Dan Caplinger has found out the hard way about tax rules he didn't understand. You can follow him on Twitter @DanCaplinger or on Google+. Check out our free report on one great stock to buy for 2015 and beyond.
