Severence Pay

[Guest Taxman]

Say an individual leaves company 12/31/02. Employee is going to paid severence over 3 years and will be issued a W-2. This makes sense, since the severence is in essence compensation for services past rendered.

However, could this individual participant in the 401k feature of their 401k plan? I know that there would be no eligibility for match, simply due to the hours worked being none....

[Harwood]

http://www.benefitslink.com/boards/index.php?showtopic=20450

[Guest Taxman]

<a href='http://www.benefitslink.com/boards/index.php?act=ST&f=20&t=20450&hl='>http://www.benefitslink.com/boards/index.p...=20&t=20450&hl=</a>

Sorry for not searching first. Let me ask another question, if I may stretch the imagination a bit....

I guess what frustrates me is the inability to get some amounts into a retirement plan. It appears that severance payments are wages for purposes of FICA. But then again, the FICA statutue refers to remuneration to an employee and the individual isn't an employee. However, it appears you would still get snagged by 401©(2)(i) which limits earned income to t or b in which personal services are a material income producing factor.

It's just weird because severance in a non-shareholder context can really only be one of two things, payments for past services or payments to establish "goodwill" among old employees. It seems unfair that since's Joe's employer pays him $50,000 extra a year he gets to defer into the company plan, but Bob's employer underpays him, but after solid years of performance agrees to pay him $50,000 extra for 4 years (because that's what Bob really turned out to be worth), and Bob is prohibited from participating in the plan.

[Harwood]

Musings on severance pay:

1. The employee contributions are like the employer match - no hours or service, so no eligibility for contributions.

2. One could look at severance payments as a form of non-qualified deferred compensation.