Tax

Protective Claims Decision for Employers on Quality Stores / FICA

03.26.2014

Author

Jeff Aleixo

protective claims decision quality stores FICA tax

The Supreme Court has finally issued a ruling on the Quality Stores / FICA severance pay taxability issue that has been winding its way through the various courts based on circumstances that now reach back over a decade. Quality Stores filed bankruptcy in 2001 and the issue stemmed from related layoffs of approximately 4,000 employees.

This case has had as many twists and turns, providing great suspense for everyone who follows employment tax matters. Yesterday’s Supreme Court decision overturned the Sixth Circuit Court of Appeals decision and was unanimous against Quality Stores.

Crux of the Issue

It is the opinion of all Supreme Court justices hearing the case that severance payments are defined as wages rather than supplemental unemployment compensation, and fall under the broad scope of all remuneration for employment, as defined by FICA.

In this case, the winners are the IRS and the Obama Administration. They avoid paying out $1 Million for Quality Stores, and additional related employer/employee claims which could potentially have totaled over a Billion dollars.

The losers are employers and employees, many of whom have filed protective claims and gone to great lengths to keep their claims valid and active throughout the duration of the case. That is why this decision is described as bad news for many.

Why Did the Court Rule This Way?

For one thing, the Quality Stores decision in the 6th District always conflicted with IRS interpretation and with case precedent from CSX Corp., a parallel case that was overturned in 2008. For another, a different ruling would have conflicted with Rowan Cos. Inc., which states that FICA rules and income tax withholding rules should be congruent.

Learn everything you need to know about federal, state and local payroll taxes to stay on top of tax compliance issues.

Impact on Employers in the 6th District – Michigan, Kentucky, Ohio & Tennessee

In 2013, the IRS suspended refund claims for FICA taxes in the Sixth Circuit until the issue was decided by the Supreme Court. The IRS will now deny all of those claims on the basis of the Supreme Court decision on Quality Stores.

Protective claims that have been on hold and pending will now receive final IRS rejection and/or will naturally expire once they reach statute.

There is no practical change for employers because all employers have already been required to treat severance pay as subject to FICA tax throughout the duration of the case. Had Quality Stores been decided differently, the IRS would have had to issue refunds.

Get a deeper insight into the taxable wage base and learn how to prevent paying more than the minimum un-insurance premiums and reduce employer unemployment taxes.

Positive Sides of the Decision

To begin with, the law was ambiguous, and now it has been cleared up. It is important that employers fully explore their options and rights to not be taxed beyond the letter of the law. There are cases when the outcome is different. With so much money at stake, employers can hardly afford to not pursue potential refunds and relief.

Also, this is a reminder that employers still have an option to avoid FICA tax on severance pay. It is not often used because it is difficult to orchestrate, but it is possible to structure severance payments in a way that employees can get weekly payments in concert with the receipt of their state unemployment benefits and thus not have the income counted as wages.

Ending Controversy over Application of FICA Taxes to Severance Payments

In a unanimous decision, the US Supreme Court ended thousands of existing Federal Insurance Contributions Act tax refund claims potentially worth billions of dollars. Ever since 2002, employers had sought refunds of FICA taxes paid on severance payments made to employees terminated as part of down-sizing.

The Court’s decision in US v. Quality Stores ended the debate as to whether broad classes of termination payments are excluded from FICA taxes. The administrative process for all previously denied refund claims was terminated. Also, the IRS denied all pending claims since a legal basis supporting those claims no longer existed.

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Editor’s Note: This post has been updated for accuracy and comprehensiveness.