Severance pay, also called supplemental wages, is subject to taxation. If you were fortunate enough to negotiate a gross-up with your employer, you get the entire severance amount because your employer pays the taxes. To gross-up your severance, you need the agreed-upon severance amount and the amount of taxes to which it is subjected.
Determine how your severance will be paid. Your employer might pay you in one lump sum amount or it may issue severance over a series of paychecks. If your separation occurred during a pay period in which you are owed regular wages, your employer can pay severance with your regular wages or as a separate check.Step 2
Figure federal income tax. If severance is paid with regular wages, calculate federal income tax as though it were a single payment for your regular payroll; this method is also called the aggregate method. If severance is paid separately, calculate at a flat 25 percent. If severance exceeds $1 million, figure the excess amount at 35 percent.Step 3
Consult the Internal Revenue Service to determine whether Social Security and Medicare -- or FICA -- taxes apply to your severance payment. Different legal factors affect whether FICA taxes apply to severance, such as whether your separation was voluntary or involuntary and your state of employment.Step 4
Contact the state revenue agency for your state income tax rate, if applicable. The state might require calculation at a flat percentage calculation or the aggregate method.Step 5
Add the percentages of taxes due. For example, 25 percent for federal income tax plus 1.45 percent for Medicare tax plus 3.4 percent for state income tax comes to 29.85 percent.Step 6
Divide the tax percentage by 100 to change it a decimal. For example, 29.85 percent divided by 100 amounts to 0.2985.Step 7
Subtract the decimal amount from 1.000. For example, 0.2985 minus 1.000 equals 0.7015.Step 8
Divide the agreed-upon severance amount by the decimal total to get the gross-up amount. For example, severance pay of $25,000 divided by 0.7015 comes to $3,564 in taxes. Your employer pays the tax cost of $3,564, so you get $25,000 in severance.
- Your employer includes your taxable severance in Box 1 and Box 16 of your W-2 form, which you use to file your federal and state tax returns. Note that you do not owe federal and state taxes on the severance amount because your employer already paid them.
Grace Ferguson has been writing professionally since 2009. With 10 years of experience in employee benefits and payroll administration, Ferguson has written extensively on topics relating to employment and finance. A research writer as well, she has been published in The Sage Encyclopedia and Mission Bell Media.