Gary S. Young
April 3, 2014
The Supreme Court unanimously ruled that severance payments that are not associated with State unemployment benefits paid to involuntarily terminated workers were “wages” under the Federal Insurance Contributions Act (FICA). The decision reverses a 2012 decision by the Sixth Circuit and subjects severance payments to Social Security and Medicare taxes.
The issue before both the Sixth Circuit and the Supreme Court arose out of the bankruptcy filed by Quality Stores, Inc. In opposition to the IRS, Quality Stores alleged that severance paid to laid-off employees in connection with its bankruptcy were not taxable wages subject to FICA. In support of its argument, Quality Stores cited the income-tax withholding rules which define “wages” similarly as the FICA rules. Thus, Quality Stores argued that the “as if” language in the Internal Revenue Code Section 3401(o) of the withholding rules should be interpreted as excluding severance payments that qualify as supplemental unemployment compensation benefits from the definition of wages under FICA. Section 3401(o) provides that “any supplemental unemployment compensation benefit paid to an individual . . . shall be treated as if it were a payment of wages.”
In rejecting this argument, the Supreme Court determined that Section 3401(o) of the withholding rules does not cause severance payments to fall outside of the broad definition of wages under FICA. This comprehensive interpretation of “wages” will likely have many consequences in a variety of circumstances for the next few years. For example, the IRS may rethink it’s position with regard to SUB plans which have been not been subject to FICA withholding but which logically should under the decision’s rationale.
The current result of the Supreme Court decision is that the IRS will not be required to refund overpaid FICA on severance payments to any employers who may have requested refunds based on the Sixth Circuit case, which were estimated to be more than $1 billion. Perhaps this ramification may have colored the Court’s thinking on this issue?
The result is that employers must now treat employee severance payments, that are not linked to the receipt of state unemployment insurance, as taxable employee wages for the purposes of FICA taxes.
If you have any questions about employee severance payments or would like to discuss your company’s employee policies and procedures, please contact me or the Scarinci Hollenbeck Labor and Employment Law attorney with whom you work.