How to Calculate Severance Pay

The Payroll CompanyHuman Resources, Other, Payroll

There is no legal requirement to offer severance. Companies often provide it after an employee is terminated. In general, the amount is based on length of employment. You may decide to offer a week’s pay for every year of service, or a flat amount based on six weeks’ pay. Distribution is typically as a lump sum or paid over a number of weeks.

Often included is a continuation of benefits coverage, especially health insurance. If you’d like some yardstick to measure your ideas against others’ practices, take a look at this:

  • Approximately 60 percent of businesses have formal severance plans.
  • These packages offer some breathing room for the unexpected loss of a job by providing a paycheck and, potentially, other benefits.
  • To get the package, employees often will need to sign paperwork that states they won’t speak negatively about the company or pursue legal action. It may involve a noncompete agreement, although these can be difficult to enforce.
  • Is severance specifically detailed in the collective bargaining agreements for labor unions? If not, the company is under no obligation to provide it to represented workers .
  • Many union contracts will negotiate this benefit for an hourly employee to get one week of pay for each year of service for a maximum of 26 weeks.
  • The typical executive benefit will be in the six-to-12-month range.
  • Besides salary, firms may offer outplacement counseling, and cover health insurance and other benefits for the severance period.

Formal severance pay policies:

  • The purpose is generally to provide assistance to employees while they seek other employment.
  • When it will—and will not—be paid. Involuntary termination and layoffs are often paid – termination for cause is typically not. You may want to set a minimum time frame for employment before an employee becomes eligible.
  • Groups covered by policy. Sometimes, the policy limits certain classes of workers; salaried workers receive it, while hourly employees don’t. (Be sure you don’t violate any state or federal anti-discrimination statutes).
  • So, how do you calculate severance pay? Severance pay can use the guidelines of a week’s pay for each year of employment, for example. The policy may set guidelines around pay for unused vacation time, sick days, and personal days.
  • Employers’ rights to modify agreement. This offers protection to the employer, with the exclusive right to amend or terminate the policy. The severance policy can stipulate that if the company is sold or merged, the benefit will not be paid unless the employee is involuntarily terminated.

Let your employees know that if they receive income from a severance package, they may not be eligible to immediately receive unemployment benefits. These packages are also subject to income tax.

It may make sense for both the company and the employee to offer other items as well, such as:

  • Positive letters of recommendation.
  • Moving expenses.
  • The company-provided laptop or cell phone the employee was using.

Give us a call if you’d like some additional insights into assembling a severance policy.