On March 25th, the U.S. Supreme Court in United States v. Quality Stores, Inc. confirmed that severance payments generally constitute “wages” subject to FICA taxation.
Under FICA, “wages” are broadly defined to include all remuneration for employment. In Quality Stores, the employer made severance payments to involuntarily terminated employees and later filed for a refund from the IRS for the FICA taxes collected on those severance payments. The Court unanimously determined, however, that severance payments fall within the definition of FICA taxable wages because, like other employer provided benefits, they are made to employees in consideration for their services. In its decision, the Court noted that the severance payments in question took into account an employee’s position and length of service.
Through revenue rulings the IRS has provided an exemption from the definition of wages for FICA withholding, for severance payments meant to supplement state unemployment benefits. The Court did not address whether the IRS exemption remains consistent with FICA’s broad definition of wages. Therefore, the IRS FICA wage exemption applicable to severance payments linked to state unemployment benefits is expected to remain in effect.
If your company has failed to withhold FICA from severance payments that were not linked to state unemployment benefits, there may be potential liability to the company that may need to be addressed.
Please contact us if you have any questions regarding the tax treatment of severance payments.