Unemployed Person’s Guide to Severance Pay
During economic downturns, companies announce layoffs with alarming frequency. While it is unfortunate that workers are laid off, for some of the affected employees, severance pay can provide an extra financial cushion as they find new employment. It is important to understand how severance pay works as well as its tax implications in order to prepare for the transition to unemployment or a new job.
Severance pay is a lump sum payment that a company makes to an employee upon being terminated from employment, usually in addition to the salary through the final day of work and compensation for unused vacation days, per the company’s specific policies. However, companies are not required to offer severance pay. Companies may decide to do so as a gesture of goodwill, in an effort to avoid bad publicity, or simply because they have the resources and feel it is fair to their employees.
The amount of severance pay is typically determined by the company, and will often be based on how long an employee has worked for the organization and their level of seniority. For example, a senior-level manager may receive much more in severance pay than an entry-level staffer. A severance package typically includes the official date of termination and a statement of reason for the termination. The agreement should also address whether or not the company will continue to make payments toward health and other insurance benefits, and note any property that is being returned at the time of separation.
A Newly Unemployed Person’s Guide to Severance Pay
When you are receiving severance pay, it’s important to review your current emergency savings fund to determine if the windfall can help you get by until you find a new job. It is also a good idea to establish or refresh a savings plan that can cover your long-term expenses, such as retiring allowance or college funds, even if you are not sure how long you will be unemployed.
As the economy continues to recover, the number of people filing for unemployment benefits is expected to increase. When you are receiving severance pay, you will likely be able to claim unemployment insurance until your severance payout runs out. It is a good idea to contact your state’s unemployment agency directly to get personalized information on how your severance payout will impact eligibility.
The amount of money you receive from a severance package will depend on how it is characterized – as employment income, as a retiring allowance, as non-taxable damages or as a combination. This will have a significant effect on the amount of taxes you must pay. For instance, if you are receiving a large lump sum payment that is greater than your total earnings for the year, it can push you into a higher tax bracket. This can result in you owing more tax than you would have otherwise and potentially making you ineligible for certain income-based credits or deductions. To avoid this, you should request your employer to withhold income tax from your severance pay.
