IRS Addresses Severance Pay-Related Employment Tax Refund Claims After Quality Stores Ruling

Author: Rena Pirsos, XpertHR Legal Editor

February 11, 2015

The IRS has issued guidance explaining how it will apply the Supreme Court's decision in United States v. Quality Stores, Inc. to claims for refund of employment taxes paid on severance payments.

In March 2014, the Supreme Court reversed a decision of the 6th Circuit Court of Appeals (In re Quality Stores, Inc., 693 F.3d 605, 616 (6th Cir. 2012)) and unanimously held that lump sum severance payments made by Quality Stores were subject to Social Security and Medicare (FICA) tax and federal unemployment insurance (FUTA) tax. The Court's decision was consistent with the conclusion reached by the Federal Circuit in CSX Corp. v. United States, 518 F.3d 1328 (Fed. Cir. 2008), which held that severance payments were FICA-taxable wages.

Before the Supreme Court's decision, the IRS had received claims for refund of FICA and FUTA taxes paid with respect to severance payments from thousands of taxpayers. The IRS disallowed all refund claims from taxpayers located outside of the 6th Circuit's jurisdiction, many of whom then submitted a request to appeal the disallowed refund claim. Pending the resolution of Quality Stores, the IRS suspended action on those appeal requests as well as on refund claims filed by those within the 6th Circuit's jurisdiction.

Under IRS Revenue Ruling 90-72 (Rev. Rul.), supplemental unemployment compensation benefits that are linked to the receipt of state unemployment compensation and satisfy certain other requirements are not taxable wages for FICA, FUTA and federal income tax withholding purposes. In Quality Stores, the parties in the dispute agreed that the severance payments did not fall into this narrow FICA tax exclusion of the Rev. Rul. Accordingly, the Supreme Court did not address whether that exclusion for certain payments linked to state unemployment benefits is "consistent with the broad definition of wages under FICA."

The IRS now explains that it will handle severance-related claims and appeals as follows:

  • It will disallow all claims for refund of FICA taxes paid with respect to severance payments that do not fall under Rev. Rul. 90-72's narrow exclusion, including all refund claims that were held in suspense pending the resolution of Quality Stores and claims filed by taxpayers located within the 6th Circuit's jurisdiction. Since the definition of wages in the Internal Revenue Code is generally the same for both FICA and FUTA taxes, the IRS will also continue to disallow claims for refund of FUTA taxes paid with respect to severance payments.
  • It will take no further action on FICA or FUTA tax appeal requests that were suspended pending the resolution of Quality Stores. The IRS says these were fully disallowed and that after the Supreme Court's decision that the severance payments involved were wages for FICA purposes, there is no basis for appeals of the disallowance with respect to that issue.
  • If a taxpayer requested an appeal that included an additional or different basis (e.g., a claim for refund of FICA tax paid on certain fringe benefits) or an appeal that concerned payments that satisfied the requirements of Rev. Rul. 90-72, then the taxpayer should contact Laird MacMillan (at 651-726-1473, not a toll-free number) for information on how to proceed with the appeal request for that portion of the disallowed claim. If a taxpayer does not initiate contact, the IRS will take no further action on the appeal request. The IRS notes that in the disallowance letter it sent to those claiming a refund, the two-year period during which taxpayers may file suit in US District Court or the US Court of Federal Claims began on the date the disallowance letter was mailed by certified or registered mail. The filing of an appeal request did not suspend the time period for filing suit.