Severance pay part 2: social security contributions and wage tax (one-fifth regulation)

Last week we had described when a severance payment to departing employees makes sense or is even mandatory and how to calculate its amount. In this article, we now address another question that is frequently asked about severance payments: Do they incur payroll taxes and social security contributions??

Here you can find part 1 of our article series "Severance payments to employees"

No social security contributions

Severance pay is paid as compensation for the loss of future earning potential, therefore it is not considered as remuneration subject to contributions. The Federal Social Court does not assign such severance payments temporally to the employment relationship, which has already ended at the time of receipt. This means that neither contributions to pension insurance, nor to health and nursing care insurance, nor to unemployment insurance are deducted from the severance payment.

The situation is different if, for example, a termination without notice is converted into a termination with notice and, within the framework of a settlement, the remuneration thus due for the period up to the new termination date is paid in arrears and increased by a certain amount. Even if the entire amount is referred to as "severance pay", the additional salary payment is subject to social insurance contributions. Only the additionally agreed, genuine severance payment remains non-contributory.

Wage tax: quintuple regulation

Severance payments are subject to wage tax. The wage tax must be withheld by the employer and paid to the tax office.

However, special rules apply to severance payments. Finally, such a payment usually increases the taxable annual income quite significantly. If one were to deduct the income tax from the severance pay plus the gross annual salary, there would not be much left over. Therefore, to avoid tax injustice, there is a separate regulation for dealing with "extraordinary income". Severance payments constitute extraordinary income for tax purposes.

It is easy to understand the legal regulation on this (§ 34 para. 1 S. 1, S. 2 EStG) is not exactly. Colloquially, it is often referred to as the five-percent rule. It works as follows:

  1. The amount is divided into five equal parts. One fifth is added to the remaining annual income. The income tax is calculated on the basis of the sum of other income and the fifth of the severance pay.
  2. In the next step, the (lower) tax amount that would be payable without the severance payment is deducted from this tax. The difference represents the additional tax burden due to the fifth of the severance payment actually received.
  3. This additional tax burden is multiplied by five and applied to the entire severance payment, resulting in more favorable taxation in principle. Finally, four fifths of the severance payment do not contribute to the tax progression, even if they increase the tax burden.

With higher incomes or larger compensation amounts the Funftelregelung affects however only slightly, because the tax rate moves then despite this computation method toward maximum rate or already reached it without compensation. The tax savings are then only small in these cases.

Fifths regulation: A calculation example

(We assume that all reductions, allowances, etc. are taken into account). and there is no income other than the salary and the severance pay. It is already complicated enough.)

Mr. Mustermann earns re-gularly 30.The employee pays an income tax for 2017 according to the tax rate according to the table (average tax rate 21 %), including a social security surcharge of 6 %.204,76 EUR.

Now Mr. Mustermann will receive 31. 12. Terminated in 2017 and receives a severance payment of 25.EUR 000, which is taxed in accordance with the five-percent rule. For this purpose, one fifth of the deduction is added to the other income and then the taxes are calculated. One reckons:

25.000 EUR : 5 = 5.000 EUR Fifth of severance pay

and in the next step

30.000 EUR salary + 5.000 EUR fifth of severance payment = 35.000 EUR annual income.

The resulting tax burden amounts to 8.057.37 EUR, including the solidarity surcharge, at a tax rate of 23.

Ver-gli-chen with the tax-er only for the gross salary of 30.000,00 EUR results in an additional tax burden of 8.057.37 EUR – 6.204.76 EUR = 1852.61 EUR.

We must now take this additional burden times five. This results in a tax added to the deduction, including a liability surcharge of 9.263,05 EUR. This value, together with the tax payable on the salary (EUR 6,000 gross per year), forms the income tax.204,76 EUR) the income tax of Mr. Mustermann for the year 2017: 15.467.81 EUR.

This sum is lower than the tax burden that would result from an annual income of 55%.000, i.e. if the severance payment were to be taxed as normal: the average tax rate would then be 30% and the income tax rate would be 16%.744,48 EUR amount. The one-fifth rule thus brings Mr. Mustermann 1.276,67 EUR tax saving.

Severance pay and unemployment benefit

The payment of a severance pay can reduce the entitlement to unemployment benefits under certain conditions. This is what happens when the severance payment is offset against unemployment benefits.

Such an imputation to the unemployment benefit is not to be confused with a blocking period, as it threatens for example with a self-termination of employment. The severance payment is credited if, in return for the payment, compliance with notice periods is waived: If a settlement is reached in a dismissal protection case, it is usually negotiated that the employment relationship is declared terminated in return for payment of a severance package and the notice periods are shortened by mutual agreement. The employment agency then postpones the payment of ALG I as if the notice period had applied after all.

In this case, the entitlement to payment of unemployment benefits (in accordance with § 158 SGB III) is only suspended for the duration of the (omitted) period of notice. In practice, however, this can result in the entire payment being cancelled, because unemployment does not last long enough for the payment of unemployment benefit to begin. A financial loss is only avoided if you exhaust the entire entitlement period for ALG I (usually 12 months).

The regulation of § 158 SGB III contains a number of further specifications for the crediting of the severance pay to the unemployment benefits. Among other things, age and length of service play a role.

EXAMPLE: Mr. Mustermann is now unemployed. He is entitled to unemployment benefit I for 365 days. Since he has agreed in return for the severance pay that the notice period has been shortened by 30 days, his ALG-I claim is now suspended for this period. If Mr. Mustermann finds a new job 180 days after leaving his previous job, he will have received unemployment benefits for only 150 days – and, strictly speaking, he will have sacrificed one month of ALG I through his severance agreement.

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