Hours of Service and Severance Pay

[smm]

I seem to recall a not so recent ruling/case/or something that addressed the question of whether a person who is receiving severance pay is credited with hours of service for benefit accrual, vesting, etc. My recollection is that the decision said no. Does anyone recall anything of the sort? I can't seem to find it.

Thanks.

[david rigby]

Quite a few prior discussion threads on this topic. Consensus is that severance pay is severance pay. Here is one of those: http://benefitslink.com/boards/index.php?showtopic=17976

Always check the plan document.

[smm]

I looked at your cite and it is not related at all to my inquiry. My inquiry has nothing to do with whether deferrals are permitted on severance pay - the answer is no, because the individual is no longer an employee, unless the severance pay is paid before the employee's last day of work - but rather, in the case of employer contributions, whether the individual must be credited with hours of service under the Labor regulations while he or she is receiving severance pay. I believe the answer is no under the regs, but thought there was some sort of ruling/case on point.

[Harwood]

I don't recall any recent rulings. I know that the regs do not mention severance pay.

§2530.200b-2 Hour of service.

(a) General rule.

(2) An hour of service is each hour for which an employee is paid, or entitled to payment, by the employer on account of a period of time during which no duties are performed (irrespective of whether the employment relationship has terminated) due to vacation, holiday, illness, incapacity (including disability), layoff, jury duty, military duty or leave of absence.

[david rigby]

Gray Book Q&A 95-30

Nondiscrimination -- Effect of Counting Severance Pay in Service and Compensation

An employer establishes a severance plan providing each eligible terminating employee with two weeks’ base pay for each year of service. Payments under the severance plan would be made over the period of “severance service”, i.e., the period of time for which the employee is receiving compensation but is no longer performing any duties (the period of severance service for an employee with 26 years of service would be 52 weeks or one year). The individuals may or may not be treated as employees for other purposes during this period. The employer wishes to amend its qualified DB plan to recognize that severance pay and severance service will be used in calculating benefits for affected terminating employees.

(a) What portion, if any, of the period of severance service and associated compensation must be recognized under the plan for purposes of section 411? Would there be a difference in treatment if the plan credited service on the basis of hours or elapsed time?

(b) How would such an amendment (or a plan provision already in place providing for the indicated treatment) affect the nondiscrimination tests?

© Would it make a difference if the severance pay were calculated in the above manner but were paid in a lump sum shortly after active employment ceased?

RESPONSE:

(a) DOL Reg. 2530.200b-2(a)(2) provides a list of circumstances where hours of service must be counted (up to 501 in any year) for which the employee is entitled to compensation other than for the performance of duties. The IRS position is that such list does not include severance benefits. The analysis is similar for a plan using the elapsed time service rules, assuming that a severance from service date (i.e., a quit, retirement or discharge) occurs before the severance benefits are paid. Therefore, there is no requirement to credit any service (or associated compensation) on account of severance benefits for purposes of section 411.

(b) It is unlikely that a plan which credits additional service on account of a severance benefit will be able to satisfy a safe harbor under 1.401(a)(4)-3(b). Because severance service is not required to be counted, the special provision in 1.401(a)(4)-11(d)(3)(v) does not apply. Therefore, one would have to satisfy the service imputation rules under -11(d)(3)(iii) and (iv). Under -11(d)(3)(iv), a legitimate business reason to impute service generally does not exist for an individual who has permanently ceased to perform services for the employer (i.e., where the employee is not expected to return to work with the employer). There are parallel rules in the 414(s) regulations dealing with imputation of compensation. Thus, unless there is evidence that the employee is expected to return to work, the service imputation rules will not be satisfied and the plan will not be able to satisfy a safe harbor.

© It would make no difference if the severance benefit were calculated in the above manner but paid in a lump sum shortly after active employment ceased.

[KJohnson]

Pax,

Is there any authority cited for the statement that:

The IRS position is that such list does not include severance benefits. 

I know some people cite PLR 8031091 for the opposite conclusion.

[david rigby]

I am not aware of the IRS cite of authority.

However, brain cloud. This topic has been discussed several times here. (I believe there is substantial consensus agreeing with the IRS position.) One of those threads may have more information. Unfortunately, I cannot locate; perhaps some other intrepid soul.

[Guest Harry O]

FWIW, I have seen many plans receive favorable determination letters notwithstanding that they credit severance as time and pay under the plans. This is probably more common among large employers with long-standing severance pay plans. I actually think it is a fairly humane practice that ought to be ignored by the IRS in most cases, particularly where the severance benefits are paid under an established, non-discriminatory severance pay plan. (And I don't necessarily think that severance pay plans that pay benefits based on years of service -- 1.5 weeks per year of service -- are discriminatory for this purpose.) My two cents.

[mbozek]

I have reviewed many situations where an employer pays an employee for a period of years to perform no duties, e.g, stay home and collect a pay check and accrue benefits. Usually these are execs or people who settle employment discrimination claims. For example Keyshawn Johnson, the Tampa Bay end was suspended from the team in 2003 and told to stay home while receiving his paycheck of $4M +.

[Mike Preston]

Surely Keyshawn was not free to get another job within the same industry, though, was he? He certainly had a valid, continuing contractual relationship that, if he had done the "wrong" thing, cost him some serious money. No, I don't think that is a particularly good example. But I don't disagree with the premise that not being at work is not necessarily indicative of a severed employment relationship. That is a facts and cicrumstances thing, I would presume.

[mbozek]

I dont see any difference- with execs or employment discrimination cases there is a valid binding settlement agreement requiring the employer to keep the employee on the payroll for a speficied period of time but the employee is not assigned any duties. The employee is paid for not showing up for work. In some cases the employee is required to stay at home. Some contracts provide that the payments will be terminated if the employee takes another position or prevent the employee from working for a competitor. The reason for using severance pay is to limit the amount that can be counted for retirement plan purposes and in some states make the employee eligible for unemployment benefits.

[smm]

I love when threads take on a life of their own. I'll add my own FWIW. I just read that Johnson case decided 2 weeks ago in the 9th circuit. (BTW - that is not the recent ruling/case I was referring to). Although that case involved the elapsed time regulations and not the hour of service regulations, the analysis and conclusion is analogous to my initial inquiry. By anaology, service must be credited for a temporary "layoff" (Query: can someone receive severance pay during a temporary layoff????) - not a permanent "layoff" - when the severance pay that I am referring to would be paid. Thoughts??