What Henk Did
When the man filed his tax return, he included the W-2 wages but did not include the severance pay reported on the 1099. From the Court report.
Petitioner denied ever working for (the sister company) and initially disputed receipt of the severance pay reflected in the Form 1099-MISC. However, by the time of trial he stipulated that he had received a check for $10,182.80 from that entity. He contends that his former employer paid the severance from a different entity and reported it on Form 1099-MISC to avoid employment taxes and to shift the burden of such taxes to him.
What the Court Ruled
The Court ruled severance pay is taxable income regardless of the form it’s reported on and company who paid it.
there is no dispute as to the purpose of the payment, and it is income that petitioner should have reported on his return for 2007.
What Taxes Do I Pay?
Henk’s case solidifies severance pay is subject to income taxes but what about self-employment taxes (i.e., FICA taxes - social security and medicare)? The Supreme Court confirmed severance pay is subject to FICA taxes (United States v. Quality Stores, Inc).
[Tax Court] determined that the unreported amount was nonemployee compensation subject to income and self-employment tax.
How To Report It
We recommend your first step is to ask your ex-employer to reissue a corrected W2 with the severance pay included and taxes withheld. If that is not feasible, report the severance pay Form 1040, Line 21 as "severance pay" then adjust Schedule SE, line 2 and attach a statement stating the adjustment is for “severance pay reported on form 1040, line 21”.
Step 1. Report it on form 1040, line 21 as other income
Step 2. Adjust Schedule SE, line 2, and attach a statement
We work with businesses on their tax planning and compliance. These are the questions we answer for them so our businesses do report it correctly. If your ex-employer got it wrong, you have the tools you need to report this right.
CPA + Partner at Why Blu