What Is Severance Pay?

The definition of severance pay varies by company, but most offer a lump sum or a series of payments to exiting employees. Typically, the amount is based on an employee’s length of employment and their job rank and salary. In some cases, companies include unused sick or vacation leave and retirement savings. Some also provide career transition assistance and outplacement services. Regardless of how much an employer pays an outgoing employee, it’s important to keep in mind that severance packages are subject to federal and state taxes.

When a business is reducing its workforce, severance pay can help ease the financial burden on departing workers and give them enough money to make a smooth transition to a new job. However, if an employer offers no severance package, the remaining workers may be more inclined to badmouth their old employer to clients, friends and coworkers. Providing severance packages ensures that an employee’s reputation remains intact even after leaving the company.

Employers do not have a legal obligation to offer severance pay, although many choose to do so in an effort to protect their brand reputation. They also want to ensure that they’re not breaching any employee contracts or severance agreements. Typically, a severance agreement includes a non-compete or non-disclosure clause and a release from any claims against the employer.

Severance pay may also cover the cost of outplacement services, which are designed to help a terminated employee find a new position. This can include assistance with resume preparation, interviewing skills coaching and networking, among other things. Some severance packages also include stock vesting, and the amount that employees receive depends on how long they worked for the company.

Definition and Why It’s Offered

Typically, a company only offers severance pay to those who are being laid off or fired. It does not usually extend to those who resign voluntarily or are terminated for reasons that aren’t related to performance, such as theft, late or poor attendance, and unprofessional conduct. However, some companies do extend define severance pay to those who are leaving for a reason that is related to their performance, such as being offered a better job elsewhere.

Companies may also impose severance packages in order to comply with the Worker Adjustment and Retraining Notification (WARN) Act, which requires certain businesses to notify employees of plant closings or mass layoffs. In addition, employers often impose them to show that they value their employees and wish them luck in their future careers. However, many large, well-established companies aren’t likely to budge from their severance package policies if they need to reduce the size of their workforce.

However, it wasn’t until the mid-20th century that severance pay became a widespread practice in the corporate world. In the aftermath of World War II, as the economy boomed and the demand for skilled labor grew, employers began offering severance packages as a way to attract and retain talent. These packages typically included a lump sum payment based on the employee’s length of service, as well as other benefits such as continued health insurance coverage and career counseling services.