CSX DECISION OFFERS SOCIAL SECURITY TAX REFUND OPPORTUNITIES FOR SEVERANCE PAY June 2002 Employers that experienced reductions in force or layoffs over the last several years may wish to consider filing a claim for a refund for the Social Security taxes paid on severance benefits based upon the recent decision by the U.S. Court of Federal Claims, CSX Corp. v United States, Fed. Cl. No. 95-858T (Apr. 1, 2002). In this case the court rejected the IRS's longstanding narrow definition of "supplemental unemployment compensation benefits" ("SUB pay"), developed through a series of revenue rulings and private letter rulings dating back to the 1950s, which required that for SUB pay to be exempt from FICA taxes it must (i) be linked to the receipt of state unemployment compensation and (ii) not be received in a lump sum. In upholding CSX's claim for a FICA tax refund, the court looked to section 3402(o) of the Internal Revenue Code, which defines SUB pay for purposes of income tax withholding as an amount paid by an employer because of an employee's involuntary separation from employment resulting from a reduction in force, the discontinuance of a plant or operation, or other similar condition, but does not incorporate the IRS's more restrictive conditions. The court's decision did not alter CSX's obligation to withhold federal income taxes on the payment of SUB pay or change the fact that SUB pay is includible in an employee's gross income. The CSX decision, if accepted by other courts, would represent a major liberalization in the definition of SUB pay for purposes of FICA taxes. The decision reflects only the views of the Court of Federal Claims, however, and would not necessarily be followed by a Circuit Court. In addition, the government has not announced whether it will pursue an appeal of this case. Employers may nevertheless wish to consider filing a protective claim for a refund of the FICA taxes paid on severance benefits for employees terminated involuntarily during years not yet closed by the statute of limitations. For many employers this could represent a significant FICA tax refund. In addition, pending further developments, employers that experience future involuntary reductions in force or layoffs may consider whether or not to pay and withhold FICA taxes on severance benefits that can be characterized as SUB pay under the CSX decision. If you have any questions regarding the above, please contact any of the following attorneys: Contact Robert L. Abramowitz Phone 215.963.4811 Email rabramowitz@morganlewis.com
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