Most companies correctly think of the Employee Retirement Income Security Act of 1974, as amended ("ERISA") as applying to retirement and group health plans, but many never consider whether a promise of severance pay is creating, or has already created, an employee benefit plan that is subject to ERISA. Severance pay can range from informal practices, such as ad hoc payments upon one-time events, to individual agreements, to policies described in employee handbooks, to formal plans with ongoing administrative schemes. Severance pay is frequently used to facilitate difficult business decisions when companies are reducing head count or salary budgets, eliminating departments, restructuring organizations, or terminating an employee. A number of federal and state laws govern decisions concerning the design, implementation, and operation of severance pay. These include ERISA, which is the federal statute governing the design, use, and termination of pension benefit and welfare benefit plans, including severance plans. The Older Workers Benefit Protection Act (OWBPA) is a statute that governs the requirements for waivers and releases of liability associated with the provision of severance to employees age 40 and over who are eligible for protection under the Age Discrimination in Employment Act (ADEA). Section 409A of the Internal Revenue Code may also govern the timing and form of payment of severance benefits. Other discrimination laws and state laws may also be implicated by severance pay. Depending on the nature and structure of the severance arrangement, severance pay could constitute a “plan” under ERISA. If the severance arrangement is a plan, the employer will need to comply with various ERISA requirements that vary depending on whether the severance pay constitutes a welfare plan or a pension plan. A plan can exist even if it is not in writing, and even an individual severance agreement can create an ERISA plan. An ERISA plan exists if a reasonable person can ascertain:

  1. The intended benefits;
  2. The class of beneficiaries;
  3. The source of financing; and
  4. The procedures for receiving benefits.

A number of legal obligations under ERISA must be satisfied if an employer maintains a severance plan that is subject to ERISA, including:

  1. Creating a written plan document;
  2. Providing a summary plan description to participants;
  3. Filing Form 5500 annually (unless an exemption applies);
  4. Distributing a summary annual report to participants (unless an exemption applies); and
  5. Complying with fiduciary requirements.

Severance pay that qualifies as an ERISA plan but does not comply with ERISA requirements is subject to civil penalties and, for willful violations, to criminal penalties as well. Employers frequently require employees to execute releases of liability in order to receive severance pay. To the extent an employer does not already require the release, the employer should seriously consider adding this requirement to its eligibility criteria for severance pay. If the release is intended to cover age claims under ADEA, certain additional requirements must be satisfied. One such requirement is that the employee must be given 21 days (and 45 days for group terminations) to consider the waiver agreement before signing it, although the employee may sign the waiver agreement at any time within that time period. Additionally, the employee must be given 7 days to revoke the waiver agreement after signing it. Most employers requiring a release of claims do not pay severance until the end of this 7-day revocation period. In conclusion, severance arrangements can be designed various ways to meet an employer’s objectives and purpose. Regardless of the severance arrangements, employers should be aware of the unintended legal consequences and penalties for severance arrangements that should, but do not, comply with ERISA and/or Section 409A of the Internal Revenue Code. Further, releases and waivers should be drafted and implemented carefully to ensure compliance with OWBPA and ADEA.