Employment Law -- Employee
Severance Agreements and Severance Packages
A severance agreement is a contract between the employee and employer that details the terms of the employee’s termination; those terms are bundled in what is called a severance package.
This page gives a broad overview of the legal requirements for severance agreements and packages with links to more detailed articles that can help you answer specific questions. Because employment laws vary by state, we suggest consulting an employment attorney in a city near you to give you the best advice about your unique circumstances.
Employees must remember that since a severance agreement is a contract, it is possible to negotiate the agreement’s terms. So, the employee is not required to accept the deal the employer initially offers. As with other types of contracts, the help of experienced counsel can significantly influence the terms of the agreement.
No federal law requires an employer to offer severance packages to laid-off employees under all circumstances. However, some states require severance pay for employees laid off in large numbers.
Additionally, internal company policy (as contained in an employee handbook, an oral promise of severance, or an employment contract) could entitle an employee to severance benefits. Employees should check with their human resources for information about their company’s severance policy.
Offering a severance package is often in the employer’s best interest. Not only can a severance package lessen the blow from the layoff to employees with years of service, but it can also protect the employer against the former employee disclosing confidential company information. A severance package can also lessen the possibility of a lawsuit by a former employee.
Knowing that an employer may be motivated—or in some cases required—to provide a severance package is vital to an employee negotiating a severance package. Following are some of the items that the employee can negotiate as a part of the package:
- A statement regarding the reasons for employee’s termination. Many employees want the severance agreement to explicitly state that they chose to resign so they can tell future employers that they left the job of their own free will.
- Money: Compensation is the top priority for many employees to negotiate in a severance package. Most often, the employer continues to pay the employee their regular paycheck (based on their salary or hourly wage) for a specific period. Alternatively, the employer may offer a one-time lump-sum payment. The amount of severance sometimes depends on years of employment with the former employer.
- Health benefits: Laid-off employees are entitled to COBRA insurance coverage to extend their health insurance. Since COBRA is expensive, many employees want their employer to continue paying its share of health insurance premiums for a definite period of time following termination.
- Employment services: This section of a severance package may be where the employer is most willing to negotiate and can provide the employee with the most long-term benefits. Employers may be willing to pay for job placement assistance, job coaching, professional resume writing, or other outplacement services to help the employee find a new job.
- Unpaid vacation time: Some states require employers who lay off employees for reasons other than just cause to pay the employee for unused vacation time. Many employers will do so even when the state does not require it. The employee should ensure the severance agreement accurately reflects unused leave time.
- Stock options: Departing employees often only have 90 days to exercise their stock options after they become disassociated with their employer. However, it may not be the ideal time for the employee to do so, given market conditions. By negotiating an extension to the 90 days, the employee may put themselves in a better position.
Employers find it beneficial to remain consistent on the financial aspects of severance agreements. However, that should not dissuade employees from negotiating for the best possible severance package.
While the severance package may extend the employee’s pay or health insurance for a short time or give them a small lump sum of money, the employee must consider what they are giving up by signing the severance agreement.
The employer often wants the employee to give up certain rights in exchange for the items mentioned above. The employee must determine if what they are receiving justifies giving up the following rights:
- Claims against the employer. The employer will likely want the employee to release it from future claims against the employer.
- The employer often wants to ensure the employee does not disclose confidential business information in addition to keeping the terms of the severance package secret by asking for a confidentiality agreement.
- Competition. A severance agreement often includes a non-compete clause restricting the employee from working for a competitor of the former employer.
- In some circumstances, a severance agreement can impact the employee’s eligibility for unemployment insurance.
These rights may be more critical to the departing employee’s financial future than the compensation the employer offers in a severance agreement. Therefore, the employee needs to consider the following carefully:
- If they want to work for a competitor or if they would likely to want to work for a competitor in the foreseeable future.
- The possibility of taking legal action against the former employer.
- Whether the employee will need unemployment compensation to pay their bills.
The employee is not obligated to sign a severance agreement, nor can the employer force the employee to sign it. Employees may refuse to sign a severance agreement if they believe it is not in their best interest.
However, an employer can legally withhold the severance payments or the lump sum payout if the employee refuses to sign the agreement.
Therefore, the employee needs to consider their personal financial and potential employment situation when deciding whether to sign a severance agreement. If the employee wants to work for a competitor, has valid legal claims against the employer, or anticipates being unemployed for a significant length of time, it may be in their best interest to refuse to sign the release of claims.
State law may require the employer to give the employee a review period to consider whether they want to sign a severance agreement. Some states also impose a period when employees may revoke their contract acceptance.
Some states only provide these protections to specific groups. For instance, New York has a 21-day review period, but it only applies to employees over 40.
Can I collect unemployment if I get a severance package? If so, how does severance pay affect my unemployment claim?
Yes, laid-off employees who receive severance pay are typically eligible for unemployment insurance. But receiving severance pay can impact your unemployment benefits. Generally, all of the following are deductible from weekly unemployment benefits: vacation pay, severance pay, holiday pay, bonuses, wages in lieu of notice, and payments from a retirement or pension plan. The claimant is required to disclose this information on their unemployment insurance claim. The outcome also various by state. California, for example, treats all severance pay as additional wages for determining unemployment insurance benefits. On the other hand, Massachusetts only counts severance pay received without a severance agreement against the employee's unemployment compensation.
Is my severance package taxable?
Yes. The IRS includes severance pay in taxable income. Unemployment insurance and payouts for accumulated vacation and sick time (two other sources of income when your employer lays you off) are also taxable. However, you may be able to reduce your tax burden by contributing to an IRA or a health savings account (HSA), among other things.
What is the typical severance package?
A typical severance package in the U.S. is one to two weeks of paid salary for every year of employment with the company. It is also common for the employee to receive continued insurance benefits, pay for unused leave, and "outplacement services" (resources aimed at helping employees who are leaving find new work).
Do I have to sign a severance agreement?
No. No federal or state law requires you to sign a severance agreement. But your former employer can withhold your severance payment if you do not sign the agreement.
When should I refuse to sign a severance agreement?
Your severance agreement will likely contain terms restricting your ability to: file a claim against your former employer; work for your former employer's competitor; disclose your former employer's confidential information; or collect unemployment insurance. You must consider the pros and cons of the severance agreement before you sign it. If you want to work for a competitor, have valid legal claims against the employer, or anticipate being unemployed for a significant time, it may not be in your best interest to sign an agreement restricting your rights in these areas.
How long do you have to sign a severance agreement?
Generally, you have 21 days to sign the agreement, although that can vary by state. For example, anyone laid off in Massachusetts is eligible for the 21-day review period, while in New York, only employees over age 40 receive this benefit.
What if my former employer breaches our severance agreement?
A severance agreement is a contract between you and your former employer. It is a breach of contract if either party fails to follow through on their obligations. You can take legal action if your employer breaches your severance agreement. However, the contract may limit your choice of legal remedies. Terms of the severance agreement often have you waive your right to a jury trial and force you into arbitration. The severance agreement often governs the process of resolving disputes. An employment law attorney can help you understand the nuances of the contract before you sign it.
Can I sue my former employer if I signed a severance agreement?
Whether you can sue your employer primarily comes down to the terms of the severance agreement. Such agreements often include waiving your right to file a claim against the employer for wrongful termination. If this is the case, suing the employer may not be an option if you sign the agreement. However, if you did not waive your right to sue, then legal action is an option open to you even if you signed a severance agreement. If you think you have a solid legal case against your employer, it may be in your best interest to refuse to sign the severance agreement. An employment law attorney in your state can advise you on this question.
Can a severance agreement be withdrawn?
It depends. In many states, you may withdraw your agreement to the severance package within seven days after you sign it. If you have 21 days to consider the offer, then your employer cannot withdraw it during that time. However, the employer may withdraw the severance package if you decline the offer or make a counteroffer within the review period.
Am I Entitled To Severance Pay If I Get Laid Off Without Notice?
Generally, your employer is not required to give you severance pay. However, under the Worker Adjustment and Training Notification Act (WARN Act), an employer with more than 100 employees must provide 60 days notice of a company closing or a large departmental closing. You are entitled to severance pay if your employer fails to provide this notice. The WARN Act does not protect an individual employee laid off without notice. However, employers often offer employees a severance package in return for waiving some of their rights—such as the right to sue the employer or to work for a competitor.
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