Severance pay
Severance pay is a payment made to an employee at the end of employment, separate from any final wages owed for hours already worked.
Severance is generally optional: no federal law requires it for private-sector employees. If you offer it, you typically set the terms in a written policy, an employment agreement, or a negotiated severance agreement. Terms often include a formula based on years of service and a lump sum or continued salary over a set period. Many add conditions, such as a signed release of legal claims. The payment is still taxable wages reported on Form W-2Form W-2. Form W-2 is the annual wage and tax statement you give employees and file with the Social Security Administration, reporting wages paid and taxes withheld.Click to open the term.
How does severance pay differ from final pay?
The IRS treats severance as subject to federal income tax withholding, often under the supplemental wage rules. Social Security, Medicare, and FUTAFUTA. FUTA is the federal unemployment tax you pay on the first $7,000 of each employee’s wages a year, with nothing withheld from pay.Click to open the term taxes also apply. Salary continuation may run across several pay periodsPay period. A pay period is the recurring block of time, such as a week or a month, for which you calculate and pay wages.Click to open the term on the normal payroll calendarPayroll calendar. A payroll calendar is an employer’s published schedule of pay periods, pay dates, and processing deadlines for the year.Click to open the term. That changes how it interacts with benefit deductions and any remaining paid time offPaid time off (PTO). Paid time off (PTO) is a single bank of paid hours an employee draws from for vacation, illness, or personal reasons.Click to open the term balance. Confirm the withholding on a specific payment with the IRS or a qualified payroll professional.
| QUESTION | FINAL PAY | SEVERANCE PAY |
|---|---|---|
| What it covers | Wages for hours worked through the last day, plus unused paid time off where state law or policy requires a payout | A separate, additional payment tied to the separation itself |
| Owed automatically | Yes | No, only under a policy or agreement |
| Timing | State law sets when the final paycheck is due | Often off-cycle, on or shortly after the separation date |
General information, not legal or tax advice. Apply current federal and state rules with qualified guidance.