Severance pay and severance packages: calculating severance pay, severance pay laws, and the agreement

Severance sits at the intersection of five bodies of law: the FLSA, the ADEA as amended by the Older Workers Benefit Protection Act, ERISA, the WARN Act, and the Internal Revenue Code. None of them requires you to pay severance. All of them govern what happens once you do. Every row below comes from the statute, the regulation or the decision cited beside it.

Only if an obligation already exists, and there are exactly five ways one attaches. A written employment agreement that promises it. A published severance policy or employee handbook provision specific enough to be enforceable. A collective bargaining agreement. An ERISA severance plan. Or a state plant closing statute. Absent all five, severance is voluntary, and the reason to offer it is not obligation. It is to buy a release of claims you would otherwise carry for years.

That distinction is not academic. It decides whether the payment is consideration for a waiver or something you already owed, and the entire enforceability of your release turns on that answer. It also decides whether the money offsets WARN Act damages, which is covered in section 05.

Maine's statute is the one the Supreme Court examined in Fort Halifax, which is why it turns up again in section 06. New Jersey's is the more dangerous of the two today, because it was rewritten in 2019 with an effective date of April 10, 2023, and it did something no other US severance law does. That is section 03. The notice obligations that sit alongside both are on our page covering the WARN Act, including the two separate headcount lists and the 90 day aggregation window.

Put those two sentences next to the federal waiver rule and the problem becomes obvious. Under 29 CFR 1625.22(d)(1), a waiver of age claims is knowing and voluntary only where the individual waives claims in exchange for consideration in addition to anything of value to which the individual already is entitled. New Jersey statutory severance is, by the statute's own words, something the employee is already entitled to and has already earned. It is therefore not consideration in addition to anything.

A New Jersey employer that runs a covered layoff, pays exactly the statutory nine weeks, and asks for a general release in return has paid a legal obligation and received a waiver supported by nothing extra. For an employee 40 or over, the ADEA portion of that release is the part most obviously at risk, and under 29 CFR 1625.22(h) the burden of proving the waiver was knowing and voluntary sits with the employer, not the employee. The fix is not complicated: pay the statutory amount, then offer a separately stated additional sum as the consideration for the release, and say so in the agreement. What is expensive is discovering the distinction after the fact.

One more New Jersey detail that gets missed. The statute says an employer shall provide the statutory severance or any severance provided pursuant to a collective bargaining agreement or for any other reason, whichever is greater. A generous company policy does not stack on top of the statute, and a thin one does not substitute for it. You pay the higher of the two.

There is no federal formula, so the number comes from your policy, and the policy is only as good as its definitions. Almost every severance calculation is the same three factors: a multiplier expressed in weeks per year, a service figure, and a weekly rate. Every dispute is about one of the three. Here is what that looks like with real numbers.

Notice what all three examples have in common. The multiplier is a policy choice and the service figure is a payroll record, but the weekly rate is a compensation decision, and it is the only one of the three that you cannot look up. If two people at the same level are separated in the same week from base salaries 22 percent apart, the severance gap is 22 percent too, and it lands in a document a lawyer will read. Consistent salary bands are what stop a layoff from surfacing a pay equity problem you did not know you had, and pay compression is usually how that gap got there.

If you miss WARN notice, the damages under 29 U.S.C. 2104(a)(1) are back pay for each day of violation plus benefits, calculated at the higher of the employee's three year average regular rate or final regular rate, for up to 60 days but no more than one half the number of days the employee was employed. Employers routinely assume the severance they are already paying will be credited against that. Read what the statute actually allows as a reduction.

The practical consequence is that an employer can pay severance and full WARN damages for the same 60 days. If you are running a layoff large enough to trigger notice and you intend the severance to do double duty, that intention has to be structured deliberately and reviewed by counsel, because the default answer is that it does not. New Jersey runs this in the opposite direction, incidentally: its statute says federal WARN back pay paid under 29 U.S.C. 2104 for a section 2102 violation is credited toward meeting the state severance requirement, so the money flows one way but not the other.

This question decides which court hears a severance dispute, what documents you were supposed to have written, and whether the person suing you gets a jury. Most HR teams have never asked it. The answer comes from Fort Halifax Packing Co. v. Coyne, where the Supreme Court examined the Maine severance statute and held that it did not create an ERISA plan.

So a one-off lump sum for one departing employee is not a plan. A standing program with eligibility rules, a tiered schedule by level and tenure, discretionary determinations, a claims process, and payments continuing over months looks a great deal like the ongoing administrative scheme the Court described. Many companies build the second thing while believing they built the first. Here is what changes when it happens.

Being an ERISA plan is not automatically bad. Federal preemption of state law claims and a deferential standard of review are meaningful advantages for an employer, which is why some companies choose it deliberately. The bad outcome is the accidental one: running a plan without the summary plan description or the claims procedure ERISA requires, and finding out during litigation. If your severance program has tiers, discretion and a review process, get it classified now rather than later.

The Older Workers Benefit Protection Act amended the ADEA to set minimum conditions for waiving age claims. Miss any one and the age portion of your release is invalid, which means you paid the severance and kept the claim. Two facts make this bite far more often than employers expect. First, the group rules apply at two employees, not at some large threshold. Second, under 29 CFR 1625.22(h) the burden of proving the waiver was knowing and voluntary is yours.

The group disclosure is where most programs come apart, because it forces you to publish something you may not have thought through. You have to identify the decisional unit, which the regulation defines as the portion of the organizational structure from which the employer chose the persons who would be offered consideration and those who would not, and then list the job titles and ages of everyone selected and everyone in that unit who was not. If the age distribution of that list is uncomfortable, the disclosure hands the recipient the pattern in writing, at the moment you are asking them to sign away an age claim. That is a strong argument for auditing selection criteria before the letters go out, not after.

One more thing worth knowing: an employee may sign before the 21 or 45 day period ends and start the 7 day revocation clock early, but only if that decision is genuinely voluntary. The regulation specifically says the employer may not induce it by fraud, misrepresentation, a threat to withdraw or alter the offer, or by offering different terms to people who sign early. Deadline pressure tactics on a severance offer are not a negotiating style here, they are a defect in the waiver.

A release is only as broad as the law allows it to be. These categories survive the signature, and a clause purporting to waive one of them does not merely fail, it can taint the surrounding agreement or trigger an independent violation.

The fourth row deserves emphasis because it is the cheapest mistake to avoid. Wages already earned, commissions already earned under the plan terms, and accrued PTO where state law treats it as wages are all owed whether or not anyone signs. Bundling them into the severance figure inflates the apparent offer while reducing the actual consideration, which is precisely backward from what you want. List them separately as amounts owed, and state the severance as the additional sum. If you are unsure which side of that line a payment falls on, our page on exempt vs non exempt classification covers the wage rules that decide it, and FLSA overtime covers unpaid overtime, which is the category a private release usually cannot reach.

This is the part of severance law most likely to be described wrongly, in both directions. Some sources say broad confidentiality and non-disparagement clauses are flatly illegal. Others say the decision was undone by the change in administration. Neither is right, and the difference matters if you are drafting an agreement this quarter.

The practical read for an employer drafting today: write the clauses narrowly. Protect genuine trade secrets and the specific dollar amount of the settlement rather than imposing a blanket ban on discussing the terms or the employer. Carve out protected concerted activity, statements to government agencies, and the EEOC rights that 29 CFR 1625.22(i) already requires you to preserve. A narrowly drawn clause is defensible under the current framework and stays defensible if the framework loosens. A blanket one is exposed either way and buys you very little in practice, because the people most likely to speak publicly are the ones who declined to sign.

Severance is wages. IRS Publication 15 states it directly: severance payments are wages subject to social security and Medicare taxes, federal income tax withholding, and FUTA tax. The Supreme Court settled the FICA half unanimously in United States v. Quality Stores in 2014, reversing a Sixth Circuit decision that had briefly made large refund claims look viable. Severance goes on the Form W-2, not a Form 1099.

The one genuine choice is the income tax withholding method. Publication 15 lists severance pay among supplemental wages, and how you withhold depends on whether the payment is identified as separate from regular wages. Pay it as a separate, identified payment and you may withhold a flat 22 percent, with the publication noting that no other percentage is allowed. Pay it combined with regular wages without specifying the amounts and you withhold as though the total were a single regular payroll payment. Once an employee's supplemental wages cross $1 million in a calendar year, the excess is withheld at 37 percent without regard to the Form W-4, counting payments from all businesses under common control.

One drafting point follows from that. A severance formula stated in weeks of pay is a gross figure, so the withholding above simply comes out of it and nothing further is owed. A settlement that promises a specific dollar amount the employee will receive is a net figure, and keeping that promise means you have to gross the payment up rather than pay the number in the agreement. The two readings differ by roughly 42 percent of the stated amount at the standard combined rate.

Two things to tell the departing employee so the conversation happens once rather than three times. The 22 percent is withholding, not a final tax rate, so a lump sum can be over or under withheld depending on their marginal bracket. And the employee side of social security and Medicare still comes out on top of it, which is why the net check is smaller than the arithmetic they did at home. Neither point is negotiable, and saying so in the offer letter avoids a call.

Severance pay is one line in a severance package. The other lines are where most of the goodwill and most of the accidental liability live. This is the checklist worth working through before the first document is drafted, because each element has its own governing law and none of them can be fixed by a sentence in the severance agreement.

A severance policy written during a layoff is written under pressure by people who already know which names are on the list, and it shows. Written in advance it takes an afternoon and settles five questions that otherwise get answered inconsistently: the multiplier by level, whether partial years count, whether the rate is base pay or total cash, what cause means, and whether the offer is conditioned on a release. Put the answers in a document, and decide deliberately whether the result is an ERISA plan under the section 06 test.

The part that is easy to miss is that every one of those answers multiplies a base salary figure. If your bands are inconsistent, severance inherits the inconsistency and then puts it in writing across a whole affected group at once, right next to the age and job title disclosure that 29 CFR 1625.22(f)(4) requires you to hand out. A layoff is the single worst moment to discover that two people doing the same job at the same level were 20 percent apart. Building the structure first is cheaper than explaining it later, and our pages on salary structure design and job leveling frameworks cover how the levels and the bands get set. Where the market numbers themselves come from is on BLS salary data.

If the reduction is large enough to trigger notice obligations, work the WARN Act headcount analysis in parallel rather than afterward, since the section 05 offset rule means the two budgets do not share a pot. And if part of the plan is converting people to contractors rather than separating them outright, read 1099 vs W2 classification first, because a misclassified conversion turns a clean separation into a wage and hour claim with its own liquidated damages.

Sources: US Department of Labor, Severance Pay topic page; Fair Labor Standards Act, 29 U.S.C. 201 et seq.; Age Discrimination in Employment Act, 29 U.S.C. 626(f), and EEOC regulations at 29 CFR 1625.22; Worker Adjustment and Retraining Notification Act, 29 U.S.C. 2101 to 2104; Employee Retirement Income Security Act, 29 U.S.C. 1001 et seq.; Fort Halifax Packing Co. v. Coyne, 482 U.S. 1 (1987); United States v. Quality Stores, Inc., 572 U.S. 141 (2014); McLaren Macomb, 372 NLRB No. 58 (2023), NLRB General Counsel Memoranda 23-05 and 25-05; N.J.S.A. 34:21-2 as amended effective April 10, 2023; 26 M.R.S. 625-B; IRS Publication 15 (2026) and Treasury Regulations section 31.3402(g)-1. This page is general information about published law, not legal advice. Severance turns on your own facts, your plan documents and states not covered here, so confirm the plan with employment counsel before you send an agreement.