MONEY MANAGEMENT

MAKING THE MOST OF SEVERANCE PAY

(October 25, 2004) — Layoffs, downsizing, restructuring — the effects of losing a job can be devastating. To soften the blow, many employers offer severance packages to displaced workers. Severance provides pay, in addition to other benefits, when a worker loses his or her job. The Virginia Society of CPAs explains that it can include wages, continuation of benefits, outplacement services and other types of compensation and assistance.

Companies are not required by law to give severance pay to terminated employees. Many companies do — some because “it’s the right thing to do” and others in exchange for the employee’s agreement not to sue the company for wrongful termination or age discrimination. Protecting the company’s reputation among remaining employees and within the community are other reasons for offering severance pay.

What to Consider When Negotiating

• Look objectively at what the company offers versus what it wants in return, and don’t feel compelled to make a quick decision. You’ll want to review any proposed agreement with your family, CPA and possibly lawyer. The key is to negotiate the maximum fair severance package you can and then to make the most of it.

• Severance is typically based on length of service. For example, you might receive one week of severance pay for each year of service. The longer you’ve worked for your employer, the more leverage you have. Employers are sometimes willing to provide a better package to a highly tenured employee or one who is facing a particular hardship.

• Focus on your needs as well as the needs of your employer, set a realistic goal and stress the fairness of your proposal. Be forthright about the economic hardships you and your family will face as a result of your job loss and point out the realities of the job market. But don’t demand an unreasonable amount, and be sure to leave room for compromise. Also, consider your needs for the continuation of any benefits that may offset lower than expected severance pay.

• Companies typically pay severance either in a lump sum payment or spread out over a period of time. As you negotiate, remember that no matter how it is paid, severance is taxable as income and is subject to Social Security and Medicare taxes.

Change Your Spending Habits

• Getting the most from your severance pay requires careful planning and wise spending decisions. Once you’ve negotiated the best severance package possible, you need to take steps to ensure that you use this income wisely. Start by creating a spending plan and make trimming expenses a family effort.

• Prioritize your payments, starting with the most critical, such as rent or mortgage, medical insurance and car payments. Cut ruthlessly from discretionary costs including entertainment, dining out and vacationing. As it becomes necessary, look for ways to reduce spending for basic needs like food, shelter, transportation and energy.

• If you’re having trouble meeting your monthly expenses, it’s a good idea to contact your lenders and explain the situation. Dipping into your retirement savings should be an absolute last resort. Between penalties, taxes and lost opportunities, you could end up losing more than you think. A better alternative is to borrow from your cash value insurance policy. Using an already existing home equity line of credit is also an option, but be sure to keep in mind that you’re putting your home at risk.

If you have questions about your severance package or about living on a reduced income, consult a CPA. He or she can help you develop a manageable plan.

The Virginia Society of CPAs is the leading professional association dedicated to enhancing the success of all CPAs and their profession by communicating information and vision, promoting professionalism, and advocating members’ interests. Founded in 1909, the Society has nearly 8,000 members who work in public accounting, industry, government and education. This Money Management column and other financial news articles can be found in the Press Room on the VSCPA Web site at www.vscpa.com.