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No FICA on severance pay

By Kay Bell ·
Tuesday, September 11, 2012
Posted: 4 pm ET

Lots of folks have lost jobs over the last few years. Those who received a severance package probably weren't happy that their final paychecks were reduced by the usual withholding of Social Security and Medicare taxes, also known as Federal Insurance Contributions Act, or FICA, taxes.

After all, when you don't know when or where your next check will be, you need every last cent.

That was the thinking of Quality Stores, a Michigan-based specialty retailer catering to farmers, hobby gardeners and do-it-yourselfers, and many of its former employees.

In connection with its bankruptcy filing in 2001, Quality Stores closed its operations and made severance payments to workers who lost their jobs. Those final employee payments reflected the employee and employer portions of FICA taxes.

But during the bankruptcy process, Quality Stores also filed refund claims with the Internal Revenue Service for FICA overpayments (plus interest) on the severance payments. The claims were for the company's portion of FICA, as well as for employees' share for former workers who agreed to let Quality Stores make the refund requests on their behalf.

Last week, the 6th U.S. Circuit Court of Appeals agreed with the store and its former workers that the severance packages were not wages for purposes of FICA taxes. Rather, these payments were seen as supplemental unemployment benefits, or SUB, pay.

The laid-off workers, however, shouldn't expect their refunded FICA taxes just yet.

There are conflicting rulings on the FICA severance issue at the lower court levels, so an eventual appeal all the way to the Supreme Court is likely.

Or the IRS could settle the matter for future similar situations by issuing regulations to clarify the tax treatment of SUB pay for FICA and income tax withholding purposes.

I'm betting on the lawyers getting more billable hours.

The 6th Circuit judges think so, too.

"We acknowledge that this issue of statutory construction is complex and that the correct resolution is far from obvious," said Judge Jane Stranch in the court's opinion.

And she also put Congress on notice.

"While the Supreme Court may ultimately provide us with the correct resolution … only Congress can clarify the statutes concerning the imposition of FICA tax," Stranch wrote.

Have you been laid off and given a severance package? Were FICA taxes taken out of that final payment?

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1 Comment
October 03, 2012 at 5:24 pm

I haven't followed this issue in a long time. What was the last court opinion concerning US vs CSX? last I heard was that the US position was overturned on appeal and that the court ruled that Severence was NOT subject to FICA. Been a long time I may have forgotten my facts. Can someone bring me up to speed?