There may be some relief on the horizon for companies downsizing employees. Severance payments are of course subject to income tax withholding by the employer and for the corresponding amount of income tax for the employee; however, the FICA tax treatment for severance payments has recently been changed by a district court ruling. Companies are able to obtain refunds of FICA tax paid on severance payments to employees.
If your company laid off employees since 2006 and paid FICA taxes on their severance pay, you may be eligible to file a refund claim. However, the IRS is likely to appeal the district court’s decision; therefore, affected taxpayers may want to delay filing their refund claims until the earlier of two dates:
(1) The date on which the U.S. Court of Appeals affirms the district courts decision (if the IRS appeals), or
(2) The date on which the statute of limitations is close to expiring on FICA taxes paid; .the statute of limitations expires three years from the date Form 941 was filed, or two years from the date the tax was paid, whichever is later.
If your organization paid substantial severance payments in 2007 to involuntarily terminated employees, you should file a protective refund claim (using Form 941-X) on or before April 15, 2011. If you paid substantial severance payments in 2008 through 2009, you might also consider filing protective refund claims for those years.
I anticipate that the IRS will either reject refund claims or hold them in abeyance until all appeals have been exhausted. However, a timely filing of a claim will protect employers rights in the event the district courts decision is affirmed. Time is of the essence.
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