Social Security Earnings History
A reader from Nevada wants to know if severance payments will affect his Social Security earnings record.
" I have a Social Security question. I am a resident of Reno, NV. When I retired on December 1, 2020, I received a severance. Half of my severance was paid in December 2020, while the other half was paid in February 2021. Federal, Social Security, and Medicare taxes were withheld from both severance payments. The February severance payment will be my only income in 2021, and it puts me above the maximum earnings subject to Social Security tax. Question: Will the severance pay be included in my Social Security earnings history for purposes of calculating my future retirement benefit?"
The question you ask is, "Does severance pay count in terms of your earnings record towards creating your Social Security retirement benefit?" Simple answer? Yes.
The Supreme Court in the past has ruled that severance payments are treated as regular wages. And, as you mentioned, income taxes and payroll taxes (Medicare and Social Security) were withheld from your severance payments, as they should have been.
It sounds like you had a nice payment in February 2021, which gave you an entire extra year of withholdings on maximum Social Security earnings --- you're getting an extra year in your earnings record even though you won't work a day. Think of severance pay as your regular "pay for work," although you weren't required to go into work. You're being paid for staying at home. That's how I envision severance pay, compared with other types of pay that you might receive after you stop working.
A question was raised in the past that got elevated all the way to the Supreme Court, where it ruled that severance payments are made as remuneration for employment, so payroll taxes, in particular, are to be treated as regular wages.
[Sidebar: https://www.nolo.com/legal-encyclopedia/court-rules-severance-pay-not-subject-fica.html The United States Supreme Court says severance payments are wages and are subject to regular FICA taxes. The Supreme Court reasoned that such payments are paid as remuneration for employment, so they are wages. (Quality Stores, Inc., 134 S. Ct. 1395 (2014).)]
You said your single payment in February 2021 exceeded the maximum taxable earnings for Social Security, which means that payment was above $142,800. On the one hand, that taxable earnings "maximum" indicates that the government will not collect Social Security taxes on any amount above $142,000. On the other hand, it isn't going to give you credit for anything above that maximum on your Social Security earnings record either. That seems fair.
What you will have is an additional year of maxed-out Social Security earnings in 2021 as part of your earnings record, which will be used to determine your retirement benefit.
You didn't share your age, so I can't opine on when those extra earnings might go into effect. But you won't see the impact in the calculations right away. (Social Security won't have the information until later in 2021 as it closes out the year.) But it will be reflected eventually. When you look at your personal Social Security Statement online next year, you'll see those amounts added to your earnings record.