Severance Pay

What Is Severance Pay?

Severance pay is money paid to an employee when their job ends for reasons chosen by the employer, such as a layoff, an eliminated position, or a dismissal without cause. It is separate from wages already earned, such as final pay for hours worked and any accrued vacation that the employer must pay out under local rules or company policy. Severance is an additional amount offered to ease the financial impact of losing a job.

How It Works

Severance is usually set by an employment contract, a written company policy, a collective bargaining agreement, or an individually negotiated agreement. The amount often depends on factors such as length of service, job level, and the reason for separation. Many employers pay it as a lump sum, while others continue regular pay for a set period. In the United States, federal law does not generally require employers to provide severance, although some state rules and specific agreements may. In many other countries, severance is required by law and calculated under statutory formulas.

Employers commonly ask the departing worker to sign a separation agreement, sometimes called a release. In exchange for the payment, the employee typically agrees not to sue the company over the termination and may agree to confidentiality or non-disparagement terms. Employees are often given time to review the document and, in some cases, can seek legal or financial advice before signing.

Why It Matters to Investors

Severance costs are recorded as an expense, usually when the employer commits to the payments. Large restructuring programs can therefore add a restructuring charge that affects reported earnings for a period. Investors reading a company's filings may find these costs listed under restructuring or operating expenses, which can help show whether reported results include one-time items.

Severance is generally taxable income to the employee. It is not the same as unemployment benefits, which are a separate government program, and the terms of severance can vary widely from one employer to another.