The International Trade Council and TSI Present, The Evolution of Severance

Prepared for the International Trade CouncilMay 19, 2015

Presented by Elizabeth Corley, Sr. Vice President, TSI

SUPPLEMENTAL UNEMPLOYMENT BENEFIT

PLANS: THE EVOLUTION OF SEVERANCE

© 2015 Transition Services, Inc. All Rights Reserved.2

• Severance programs generally

• What is a SUB-Pay plan and how does it work?

• Why employers choose SUB-Pay

• Program design options and examples

• Legal requirements – IRS, State, ERISA

• Administrative and employee relations considerations

• Savings illustrations

• Implementation checklist

AGENDAPage 3

Page 4

Page 5

Page 6

Page 11

Page 15

Page 16

Page 19


• Severance GenerallyPay, most often in the case of involuntary termination, which eases the impact of

job loss and facilitates an employee’s transition to new employment.A severance package usually includes a release of liability as well as other

protections for the employer. Typically, the amount of severance is determined by a formula which calculates a

certain number of weeks of pay based on level and tenure with the company.Severance packages may also include extended benefits, such as healthcare or

outplacement assistance to help the employee find a new position.

• Types of ProgramsVoluntary: individual who has decided to leave the company. Involuntary: individuals who have been laid off due to a reduction in force.Early retirement: individuals who have chosen to retire, typically early, as a

means to help the employee make their transition into retirement.

WHAT IS A SEVERANCE PROGRAM?


A Supplemental Unemployment Benefits Plan (SUB Plan) is an IRS approved vehicle for providing separation benefits.

• Paid upon involuntary termination due to RIF, job elimination, or reorganization.

• Designed to supplement state unemployment benefits, while protecting the employees pre-displacement income.

• Can provide the same protections for the employer as severance.

• Exempt from FICA and FUTA if:

Linked to receipt of state unemployment benefits; and

Paid periodically (no lump sum payments).

• Former employees are required to apply and be eligible for state unemployment benefits.

• Former employees must periodically verify that they are still unemployed and available for work.

AN ALTERNATIVE TO SEVERANCE


Employers choose a SUB Plan because:

• Terminated employees’ pre-displacement income can be maintained during the unemployment period at a significantly reduced cost.

• Terminated employees are eligible for state unemployment benefits.

• Employer realizes savings (7.65%) while employees’ income is increased (7.65%).

Combined 15.3% FICA savings

• Additional savings of up to 25-50% of total severance costs can be achieved depending on plan design.

WHY CHOOSE A SUB PLAN?


• Integrates with state unemployment compensation benefitsEmployee’s pre-termination income maintained, but obtained from two

sources, the state and the employer. The two together total the pre-termination income.

• Tracks the duration of unemploymentSUB-Pay ends upon new employment.

• Generates FICA tax savings of 15.3%

Split equally between the employer and terminated employees.

PROGRAM DESIGN OPTIONS: TRADITIONAL SUB PLAN


EXAMPLE• An employee with a weekly base pay of $1,000 is terminated due to a RIF and is eligible for 12 weeks of

SUB. • The employee applies for state unemployment compensation benefits and is eligible to receive $400

per week in state unemployment benefits. • Therefore, the SUB payable is $600 per week. • Together, the two benefits equal 100% of the former employee’s weekly base pay ($1,000). • The SUB-Pay of $600 per week is exempt from Social Security and Medicare (FICA) taxes.

Comparison of employee benefit over 12 weeks:Severance Plan

$1,000 x 12 weeks

$12,000

FICA taxes 7.65%

($918)

Total Benefit= $11,082

SUB Plan

$400 State UI benefit x 12 weeks

$4,800

$600 SUB benefit x 12 weeks

$7,200

FICA taxes $0

Total Benefit= $12,000*

*Employee takes home $918 more under a SUB Plan than severance plan


Comparison of employer costs over 12 weeks:

Severance Plan

$1,000 x 12 weeks

$12,000

FICA taxes (7.65%)

$918

FUTA, SUTA $324

Cost to Employer =

$13,242

SUB Plan

$600 SUB benefit x 12 weeks

$7,200

FICA taxes (7.65%)

$0

FUTA, SUTA $0

Cost to Employer =

$7,200

Under SUB Plan scenario employer saves $6,042.

EXAMPLE (CONT’D)


MORE DESIGN OPTIONS: RE-EMPLOYMENT BONUS

SUB-Pay Remaining benefit

Termination

--- $7,200

Week 1 $600 $6,600

Week 2 $600 $6,000

Week 3 $600 $5,400

Week 4 $600 $4,800

Week 5 $600 $4,200

Week 6 $600 $3,600

• Re-Employment Bonus– FICA taxable Upon new employment, the employer pays a percent,

typically 30% - 50%, of the remaining benefit as a lump sum, FICA taxable payment.

This incentive to the employee typically results in a shortened benefit period, allowing for additional savings to the employer.

For example, if the same employee were to gain new employment 6 weeks into her allotted 12 week benefit period, there would be a remaining benefit of $3,600. As shown below, incentivizing the employee with a 30%-50% bonus, would result in additional savings to the employer of $1,800 - $2,520.

$3,600 remaining benefit

FICA taxable bonus paid to employee

Additional savings to the company from a shortened benefit duration

30% bonus $1,080 $2,520

50% bonus $1,800 $1,800


• Extension of the Benefit Period Upon expiration of the benefit period, if the

terminated employee has not yet found work, the employer has the option to use the savings achieved through the UI offset to extend the benefit period as long as he/she remains eligible for UI.

Per our previous example, the savings generated amounted to $6,042 (calculation on page 9). As shown in the table to the right, this amount of savings has the potential to extend the benefit period for an additional 12 weeks for a total of 24 benefit weeks.

MORE DESIGN OPTIONS: BENEFIT EXTENSION

SUB-Pay Remaining benefit

Week 12 $600 $0

Week 13 $600 $6,042

Week 14 $600 $5,442

Week 15 $600 $4,842

Week 16 $600 $4,242

Week 17 $600 $3,642

Week 18 $600 $3,042

Week 19 $600 $2,442

Week 20 $600 $1,842

Week 21 $600 $1,242

Week 22 $600 $642

Week 23 $600 $42

Week 24 $42 $0


• SUB-Pay must be linked to receipt of state unemployment compensation.

• SUB Pay can only be paid as a result of a RIF, position elimination, reorganization or similar situation.

• Cannot be paid in a lump sum.

• All individuals must file, and be eligible for, state unemployment benefits, with the following exceptions:

Not enough wages to qualify for state unemployment benefits;

Exhausted state unemployment benefits; or

Waiting week/period.

• All individuals must verify state UI eligibility

In order to receive SUB-Pay.

Duration of state UI eligibility.

• SUB-Pay ends when

Reemployed; or

No longer eligible for state UI.

LEGAL REQUIREMENTS - IRS


• Decided: March 25, 2014• Issue: Whether severance that satisfies the definition of supplemental unemployment

compensation benefits in Code section 3402(0) is subject to FICA• Arguments:

Taxpayer - severance paid pursuant to a plan upon involuntary termination due to RIF or discontinuance of plant/operation is FICA exempt (based on definition in Code section 3402(o))

Government – severance is subject to FICA; only exception is severance that is linked to the receipt of state unemployment compensation and is not paid in a lump sum (based on IRS revenue rulings)

• Held: Severance is subject to FICA Case did not involve payments that were linked to state unemployment benefits so court

declined to consider whether exclusion for SUB-Pay in IRS revenue rulings is consistent with the FICA statute

• Practical impact: Taxpayer’s refund denied; IRS to deny other taxpayer refund claims Employers may want to consider offering SUB-Pay instead of severance

UNITED STATES V. QUALITY STORES, INC.


States have different regulations regarding SUB Plans:

• Some states require prior approval for a SUB Plan.

• A small number of states require a trust.

• Vacation/unused paid time off can have an impact on when SUB Pay can begin.

• One state prohibits use of a release and waiver in exchange for SUB Pay.

• A few states have requirements regarding payment frequency.

LEGAL REQUIREMENTS - STATE


• Plan and summary plan description

• Claims procedure

• Plan administrator/fiduciary

• Annual report and disclosure

• Funding not required

LEGAL REQUIREMENTS - ERISA


Administration May seem more complex than severance. Requires tracking of unemployment status. HR and employee education is important. A third-party administrator is an efficient way to ensure smooth

operations.

Employee Impact Management typically imagines greater employee pushback than

actually occurs. Some employees may feel like the plan is a “take-away” and the

FICA tax savings are inconsequential. Employees adapt quickly.

CONSIDERATIONS


SAVINGS ILLUSTRATIONS


A large IT outsourcing firm implemented a SUB Plan and has had regular monthly activity since 2006. Thousands of participants have taken part in the program.

EXAMPLE #1

$39,960,510 Total Severance (average benefit allocation of 7.0 weeks)

$3,743,800 Employment Taxes

$43,704,310

Total Benefit Cost under a Fixed-Sum Severance Plan

$5,230,255 State UI Offset Savings

$3,743,800 FICA Tax Savings

$5,342,759 Duration Savings (average benefit utilization of 6.5 weeks)

$29,387,496

Total Benefit Cost Under a SUB Plan

$14,316,814

Gross Savings

33% Percent Savings Under a SUB Plan


A national manufacturer and industrial solutions provider implemented a SUB Plan in mid-2011 in all 50 states, achieving considerable immediate savings.

EXAMPLE #2

$26,767,868 Total Severance (average benefit allocation of 16.9 weeks)

$1,784,116 Employment Taxes

$28,551,984

Total Benefit Cost under a Fixed-Sum Severance Plan

$5,227,849 State UI Offset Savings

$1,784,116 FICA Tax Savings

$3,180,402 Duration Savings (average benefit utilization of 12.5 weeks)

$18,359,617

Total Benefit Cost Under a SUB Plan

$10,192,367

Gross Savings

36% Percent Savings Under a SUB Plan


• Perform cost/benefit analysis.

• Establish goals for Separation Benefits Plan and assemble team.

• Develop Plan design including benefits and operations.

• Create Plan documents - Plan/SPD, Trust (if necessary).

• Obtain State Approvals where necessary.

• Build and implement communications plan.

• Resolve other issues (e.g., waiver/release, Older Workers Benefit Protection Act issues).

• Establish detailed process flows and data exchange procedures.

CHECKLIST FOR EFFECTIVE IMPLEMENTATION


QUESTIONS


Elizabeth CorleyTransition Services, Inc.

177 Broad StreetNinth Floor

Stamford, CT 06901 Tel: (203) 975-2115

ecorley@ transitionservices.com

THANK YOU!

@transitionsvcs

linkedin.com/company/transition-services-inc

severancetrends.blogspot.com

www.transitionservices.com

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