United States · Taxes on severance

Is severance pay taxable?

Yes. Severance pay is taxed exactly like the wages it replaces. The IRS's employer rulebook, Publication 15, names severance pay expressly in its list of supplemental wages — alongside bonuses, commissions and back pay — which means it is subject to federal income tax withholding, Social Security tax and Medicare tax, and it is reported as wages. No part of a standard severance payment is tax-free, and relabelling it in an agreement does not change that. What can surprise you is the withholding: a severance check often has tax taken out at a flat 22%, for reasons explained below.

Information only — not legal advice, and not tax advice: this guide explains the general federal rules from the IRS's own publications. Your return depends on your whole year — a tax professional is the right check for anything unusual. To estimate the gross payment itself first, use the severance pay calculator.

Severance is a "supplemental wage"

Publication 15 defines supplemental wages as compensation paid in addition to an employee's regular wages, and its list is explicit: it includes bonuses, commissions, overtime pay, accumulated sick leave, awards, prizes, back pay, retroactive pay increases — and severance pay. That single classification answers most versions of this question. Severance is income, taxed in the year it is paid to you; it belongs on your Form W-2 as wages; and it carries the same employment taxes as a normal paycheck. It makes no difference whether the payment is called severance, a separation payment, or pay in lieu of notice, and no difference whether it arrives as one lump sum or a series of instalments — the character of the income stays the same, and only the timing of when each instalment is taxed can shift.

The 22% flat withholding rule

Because severance is a supplemental wage, the employer chooses between two withholding methods for federal income tax. Under the percentage method, if the severance is paid separately from regular wages (or paid together but separately specified), and income tax was withheld from your regular wages in the current or preceding year, the employer may withhold at a flat rate of 22% — Publication 15 is blunt that "no other percentage is allowed". Under the aggregate method, the severance is added to your wages for the pay period and withheld as if it were one larger regular payment, which usually takes out more up front. One special case: supplemental wages above $1 million paid to one employee in a calendar year are withheld at 37% on the excess, whatever Form W-4 says. The practical point for everyone else: 22% is a withholding rate, not your tax rate. If your actual marginal rate for the year is lower — common in a year when you worked only part of it — the difference comes back as a refund when you file; if it is higher, you will owe the balance.

Social Security and Medicare always apply

Whichever withholding method the employer picks, Publication 15 adds the sentence that matters most for your net cheque: supplemental wages are subject to Social Security, Medicare and FUTA taxes regardless of the method used. For 2026, the Social Security wage base is $184,500 — severance counts toward it like any wages, and the 6.2% employee share applies up to that ceiling — while Medicare's 1.45% employee share has no wage cap at all. This is the part severance recipients most often miss: a payment can have the "right" 22% income tax withheld and still arrive smaller than expected, because the payroll taxes were never optional.

A worked example on an $18,000 payment

Take the $18,000 severance from our worked example — $78,000 salary, six years, two weeks per year — paid as a separate lump sum to an employee whose total wages for the year are under the Social Security ceiling. If the employer uses the flat-rate method, withholding is: federal income tax at 22% = $3,960; Social Security at 6.2% = $1,116; Medicare at 1.45% = $261. Total withheld $5,337, so the payment arrives as $12,663 — before any state withholding. That is an illustration of withholding, not a tax bill: the employee's actual tax on the $18,000 is settled on the annual return, and in a part-year of work it is often less than 22%. The example exists so the gap between the headline figure and the deposit never comes as a shock.

State taxes

States that levy an income tax generally treat severance the same way the federal government does — as wages, taxable in the year paid, with state withholding taken from the payment. The details (the withholding rate or formula, and any supplemental-wage rule of their own) are set by each state's revenue department, and they vary enough that this guide deliberately does not print fifty state rates it cannot keep current. Two safe generalisations: if your state has no broad income tax, there is no state layer on the payment; and moving states between earning the severance and receiving it can raise a sourcing question that is worth professional advice, because states do not all answer it the same way.

Common questions

Why was exactly 22% taken out of my severance?

Because your employer used the IRS's flat-rate method for separately paid supplemental wages. It is the default in most payroll systems for lump-sum severance, and it is a prepayment of tax, not the final calculation.

Can I ask for instalments to reduce the tax?

Instalments change when income is taxed, not whether or how it is characterised — each payment is still a supplemental wage when paid. Splitting a payment across a year-end can genuinely change the total tax, because it moves income into a different tax year; that is a timing decision to model with care, not a loophole.

Is the payout of my unused vacation taxed the same way?

Yes — Publication 15 treats an annual lump-sum payment for unused vacation leave as a supplemental wage too, so the same 22% flat-rate withholding option and the same payroll taxes apply. (Whether the payout is owed at all is a state question: see PTO payout laws by state.)

What if my severance came from a settlement of a legal claim?

Then the analysis can differ — settlements can contain amounts for different kinds of claims with different tax treatment, and the allocation in the agreement matters. That is precisely the case this guide does not generalise about; take the agreement to a tax professional before you sign, not after.

Image credits

The budget analyst photograph is by the U.S. Department of Labor, via Wikimedia Commons, public domain (work of the U.S. federal government, via the National Archives / DPLA). The handwritten calculations photograph is by Brad Neathery, via Wikimedia Commons, license CC0. The fountain pen photograph is by Nic McPhee, via Wikimedia Commons, license CC BY-SA 2.0. All three were already in this site's licensed collection; all were converted to WebP and resized. No image on this page was generated by AI.

Sources

• IRS Publication 15 (2026), section 7 — Supplemental Wages: definition list including severance pay, the 22% flat rate, the $1 million / 37% rule, and Social Security, Medicare and FUTA treatment (irs.gov/publications/p15)
• IRS Publication 15 (2026), "What's New" — 2026 Social Security wage base of $184,500 (irs.gov/publications/p15)
• U.S. Department of Labor — Severance Pay (dol.gov/general/topic/wages/severancepay)

Withholding figures in the worked example are arithmetic on the rates above: 22%, 6.2% and 1.45% of $18,000. Withholding is not the final tax; the final tax is computed on the annual return.