On March 25, 2014, in a decision highly anticipated by employers, the U.S. Supreme Court held unanimously that certain severance payments paid to employees who were involuntarily terminated were taxable wages for purposes of the Federal Insurance Contributions Act (FICA). United States v. Quality Stores, Inc., et al., No. 12-1408 (U.S. Mar. 25, 2014). The holding reversed a Sixth Circuit Court of Appeals’ decision and was a blow to employers’ hopes that the Court would exempt severance payments from FICA and open the floodgates for refund claims, the backlog of which was estimated to be in excess of $1 billion. The decision leaves open whether the Internal Revenue Service (IRS) can and will adhere to its long-held position on supplemental unemployment plans that, unlike the plans at issue in the case, are not paid in a lump sum and are tied to eligibility for state unemployment benefits. The IRS position on these plans has been that payments thereunder are not FICA “wages.” The decision specifically did not address such plans.

By way of background, Quality Stores, Inc. (“Quality Stores”) made severance payments to employees who were involuntarily terminated as part of Quality Stores’ Chapter 11 bankruptcy. The payments were made pursuant to two different plans that did not tie the payments to the receipt of state unemployment insurance. Quality Stores paid and withheld taxes required under FICA, but later sought a refund on behalf of itself and its employees arguing the payments should not have been taxed as wages under FICA. Quality Stores initiated proceedings after the IRS did not respond to the refund request. The District Court and Sixth Circuit found in favor of Quality Stores, holding the severance payments were not wages under FICA, but the Supreme Court disagreed.

FICA payroll taxes apply generally to wages, which is broadly defined under Internal Revenue Code Section 3121(a) as all remuneration for employment. The Court determined that severance payments, although paid after the employment relationship ended, are made in consideration for employment and, therefore, fall within the definition.

In so holding, the Court rejected Quality Stores’ argument that that Section 3402(o) of the Internal Revenue Code (which relates to income tax withholding) is a limitation on the meaning of “wages” for purposes of FICA. Quality Stores had generally argued that since Section 3402(o) states that supplemental unemployment benefits (“SUB payments”) should be treated as if they were wages, this must mean that they are not, in fact, wages. The Court, however, disagreed, noting that the language of Section 3402(o) is consistent with the government’s position that some SUB payments are wages, whereas others are not. The Court cited the regulatory background against which Section 3402(o) was enacted as evidence of Congress’ intention to cover both SUB payments tied to state unemployment benefits (which the IRS continues to believe are not wages subject to FICA) and those that are not (such as the severance payments at issue in the case). The Court refused to address whether the IRS’s position that SUB payments tied to state unemployment benefits are exempt from income tax withholding and FICA taxation is consistent with the definition of wages.

As noted above, a number of employers had already filed protective claims for prior tax years so that they might recover FICA taxes if the Supreme Court ruled in favor of Quality Stores. In addition, in anticipation of the pending decision, some employers were gearing up to file their protective claims for the 2010 tax year by April 15 of this year. The Supreme Court’s decision now effectively bars those claims for severance payments not linked to state unemployment benefits.

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Photo of Robert Projansky Robert Projansky

Robert M. Projansky is a partner in the Employee Benefits & Executive Compensation Group and is currently a member of the Firm’s Executive Committee.

Rob has a broad practice advising both multiemployer and single employer clients on all issues related to the legal…

Robert M. Projansky is a partner in the Employee Benefits & Executive Compensation Group and is currently a member of the Firm’s Executive Committee.

Rob has a broad practice advising both multiemployer and single employer clients on all issues related to the legal compliance and tax-qualification of ERISA-covered pension and welfare plans. Rob’s clients include the largest and highest-profile U.S. media and entertainment industry clients, as well as a broad range of Fortune 500 companies.

In the multiemployer context, he serves as counsel to the boards of trustees of a number of large and small funds and frequently assists clients in addressing issues related to the funding of defined benefit pension plans, including zone status, benefit suspensions, special financial assistance and withdrawal liability. He also advises these clients on healthcare compliance, cybersecurity and government investigations. In addition, his practice includes advising corporate clients on their responsibilities related to multiemployer plans, with particular expertise on the impact of multiemployer and collectively bargained plans in corporate transactions.

Rob has extensive experience advising corporate clients regarding general compliance issues and fiduciary compliance matters, including plan asset and prohibited transaction issues. He also has addressed a myriad of issues related to complex plan investments, including negotiation of separately managed and collective investment vehicles for both traditional and alternative investments such as hedge funds, private equity funds and fund-of-funds vehicles.

Rob is described in Chambers USA as “incredibly smart and creative, and a really effective, zealous advocate” who “adroitly communicates complicated ERISA matters to clients in understandable language and well-timed levity.”  He is a widely sought after speaker on topics related to employee benefits, fiduciary, cybersecurity and government investigations and speaks each year at the annual conference and various other conferences sponsored by the International Foundation of Employee Benefit Plans, the largest educational organization in the employee benefits industry. Rob currently serves as one of the nine Advisory Directors on the Board of Directors of the International Foundation.