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Exit Package Components and Design

Debra Thompson's Profile

Exit packages can consist of serveral components. In strategizing for one can anyone tell me the tax consequences of the following. 

  • Normal Severance (taxed as normal wages)
  • Paid PTO (taxed as normal wages)
  • Damages Settlement - Unsure 
  • Services for professional resume and recruiter - unsure

Is there anything else it might be called to avoid a large tax consequence. 

Since organization offering package is not financially secure having the package spread over time is not an option. 

Answers

Bryan Frey
Title: VP Finance/Corp Controller
Company:
(VP Finance/Corp Controller, ) |

It probably doesn't matter what you call the event, it's about what they are being paid. If you pay out severance, that's normal wages. Ditto for the PTO. And don't forget about stock options if they have any. Depending on the company stock plan, whether they are NQO or ISO options, whether or not they have been exercised yet, and if so, how long ago, the person will have those tax consequences as well. I'll leave it to the tax experts to get more specific on your other open items.

Topic Expert
Malak Kazan
Title: VP, Special Projects
Company: ERI Economic Research Institute
(VP, Special Projects, ERI Economic Research Institute) |

Concur with above and add regarding damages settlement: if by court, then typically it will include instructions for taxes (may be taxed, grossed up or not taxed); if damages as internally negotiated with employee, will likely be taxed at ordinary income tax rate (confirm with tax advisor) however this later scenario is least likely to occur if you are already offering a severance, organization will get employee to sign a "waiver" to not sue for damages. Regarding outplacement services, this is typically a contracted service which the organization will pay directly to service provider and the employee is given instructions for "accessing these services". Other item typically included is some extension of health benefits.

Topic Expert
Keith Perry
Title: Consulting CFO and Business Operations A..
Company: Growth Accelerator
(Consulting CFO and Business Operations Advisor, Growth Accelerator) |

Concuring with Malak, per your question re: resume/recruiter, the "outplacement" purchase is not a taxable event for the employee (but employee doesn't have access to the funds).

Extension of health benefits depends on the state, in my understanding. In CA, once the employee is officially terminated, they cannot be on the company plan. They can get COBRA reimbursement, or some sum for self-purchased health expenses, and depending on their income level this may or may not be a deduction once they purchase the COBRA. You would definitely withhold against it as income, however.

Malak is also correct about the waiver (as opposed to damages). We term this a "release of claims" and it is always a condition of any payment (except salary, PTO and the like). It is definitely taxable.

It all begs the question of "why payout if company isn't highly liquid"...but that is well beyond your simple tax question.

Topic Expert
Barrett Peterson
Title: Senior Manager, Actg Stnds & Analysis
Company: TTX
(Senior Manager, Actg Stnds & Analysis, TTX) |

Many exit packages are clauses in employment contract, often witten at time of hire. Other provisions may incude "average bonus", special retirement plan vesting, stock plan vesting, and "tax gross up". If over $1 million, "golden parachute" limits on tax deductions may apply. These latter provisions often apply only to senior officers.

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