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emc011075
emc011075, Tax adviser
Category: Tax
Satisfied Customers: 3122
Experience:  IRS licensed Enrolled Agent and tax instructor
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My name is ***** ***** and the issue is in regards to a

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Customer: Hi my name is ***** ***** and the issue is in regards ***** ***** severance check that my husband will be getting at the end of this month. His company is being acquired so they informed him at the beginning of the month that they would be letting him go but giving him severance for 6 months of work a total of $28,153 before taxes. His annual salary before taxes is $56,306. Today he learned that the check to be issued tomorrow will only be for $15,720, which means it is being taxed at 44%. Is that high??
JA: Thanks. Can you give me any more details about your issue?
Customer: My husband just forwarded me the pay stub and it looks like the severance pay is being added to his yearly income so it looks like he makes over $70,000 a year. It states that the severance check is withholding $9,226 in Federal, $1,745 in FICA, $408 in medicare, and $1,052 in Illinois state tax.
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Submitted: 1 year ago.
Category: Tax
Expert:  emc011075 replied 1 year ago.

Hi. My name is ***** ***** I will be happy to help you.

Unfortunately yes. Severance pay, just like bonuses and vacations are treated as lump-sum supplemental wages for tax purposes and are taxed at flat 25% rate or so called aggregate method (which seems like what the employer used). Between the social security, Medicare and state and local taxes, yes it is possible that the combined tax rate is between 35 - 45%. On the positive side, if he gets it before the end of the year, the income and withholding will go on his 2015 and you can get it back in form of refund when you file your 2015 tax return.

Here's an article that basically explain the IRS withholding rules: http://www.lorman.com/resources/irs-provides-guidance-on-proper-income-tax-withholding-for-nine-common-supplemental-wage-payment-scenarios-15236

Customer: replied 1 year ago.
Can you explain the aggregate method a little more? What tables are used to determine this Federal percentage? From my calculations they are taxing him 32.7% for Federal on his severance check. How much could we expect to see back when we file our taxes?
Expert:  emc011075 replied 1 year ago.

For the aggregated method payroll department used a certain formula based on W4 information (tax withholding certificate). They do not use tax tables, they use payroll tables. Payroll taxes are calculated based on assumption of income. If you earn 2,000 for the payroll period and you are getting paid every two week, than it is assumed you earn 52,000 (2,000x26) a year. However, if you receive a severance pay 30,000 on the same paycheck, your tax will be calculated as if you received 832,000 (32,000x26) per year and your withholding will be substantially higher because of assumption that you pay substantially more taxes in much higher tax bracket than somebody with 52,000 income. That's about how the aggregated method work. There's no logic behind. For that pay period you have same tax withholding as somebody who makes 832,000 per year.

There's IRS explanation:

To calculate the aggregate method, supplemental wages are added to regular wages for the most recent payroll period this year as if they were a single payment. The tax is then determined on the single payment based on the tax tables for the appropriate payroll period and using the employee's IRS Form W-4. The tax already withheld from the regular wages is then subtracted, and the remaining tax is subtracted from the supplemental wages.

Expert:  emc011075 replied 1 year ago.

Most employers don't use the aggregated method unless they have to (for annual payments over 1M) or the payroll clerk doesn't know how to code it properly. I would try to contact payroll department and ask if they could do last minute change but if the check will be issued tomorrow, it may be too late.