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Bankrate's 2010 Tax Guide
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Tax help after a layoff

If a person has been fortunate enough to receive a severance package that includes several months' worth of salary, that's also considered taxable income. The decision to make at that point would be whether to take the money in a lump sum or a payout over time.

Annual inflation adjustments of the tax brackets could provide some tax relief if you decide to take an extended payout, assuming the company will be around that long. The other issue that comes into play is a person's own spending habits. Some people would take a lump sum payment of six months' worth of salary and blow it in a week; others would have no problem making it stretch for a year.

Meanwhile, there are some tax benefits that workers can take advantage of while they're out of work and looking for a new job. Job-search services, such as resume preparation or travel expenses to an interview, may be deductible for people who file itemized returns.

Any educational expenses related to a person's line of work also are deductible.

That means that if a person takes some classes to keep his skills up to date, that's deductible. If they use a layoff as a springboard to launch a new career, courses related to the new field can't be written off. Once a person gets a new job, if it involves moving, those expenses could be deductible, too.

Don't forget about health benefits

While laid-off workers are setting aside money to pay their taxes, they also need to keep one other payment current -- their medical insurance.

"Insurance is something people don't think about," Moore says. "If it lapses, it's a huge problem."

It can be particularly harmful if a family member has a pre-existing condition.

For that reason, the experts recommend biting the bullet and taking the coverage offered by their former employer through COBRA. It's expensive because the individual is paying what the coverage previously cost them and their former employer, plus 2 percent. But it provides the necessary continuity to maintain a person's eligibility for medical insurance when they get a new job.

Workers have 60 days to decide whether or not to accept COBRA coverage, Sommer says. They can even wait until they actually have a claim to decide to take it. "You don't have to decide the day you lose your job," he says. "If you need it and decide you want it, you can get it." With the 60-day window, Moore says that a lot of people only wind up paying one COBRA premium before they have a new job with benefits. For the peace of mind it offers and the potential problems it heads off, she says, it's worth the expense. Or, if a worker is young and healthy, Sommer says, he also might look into getting an individual policy or coverage through a professional or trade association. One way or another, though, it's critical not to let the coverage lapse.

Finally, come tax time, it will be important for workers to hang on to their last pay stubs. If the company goes under, it might be tough to get a W-2. With or without it, the income still has to be reported. Moore recommends attaching a copy of the pay stub to the return, with a note stating that a W-2 wasn't received and that the tax obligation has been based on the information from the pay stub.

That's usually enough to get the IRS to pay a call to their former employer, which should give laid-off workers at least something to smile about.

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