Q&A: What Kind of Severance Agreement Should We Offer?

How to determine severance when you let an employee go.

We are considering the dismissal of an employee, and would like to enter into a severance agreement with her. Do you have any guidelines on how much severance pay should be considered?
That’s entirely up to you. There are no definitive standards. The amount of severance pay is often expressed in terms of a specified number of weeks of salary and benefits. It should be discussed openly with the employee, and a mutually acceptable number of weeks should be chosen. Higher paid employees will receive greater severance benefits because of their higher rate of pay. Other important factors to consider are:
1. Whether the employee is a member of a protected class under an applicable state or federal discrimination law. If so, be prepared to agree to a higher amount in order to avoid a possible discrimination claim under state or federal law that could result in a protracted legal dispute.
2. The likelihood the employee would pursue a legal claim against the church.
3. Whether the church has employment practices insurance coverage that would provide a legal defense, and indemnification, in the event of a lawsuit. Many churches do not have insurance for employment practices, meaning that the church would be responsible for retaining and compensating its own attorney in the event of a claim of discrimination. In some cases, this can result in a substantial, and unbudgeted, expense to the church.
4. The results of the employee’s last several job performance evaluations. If they are all average or above average, this is a strong incentive to resolve any potential claims by entering into a severance agreement. If a severance agreement is not signed, and the employee sues the church, those average or above average job evaluations will be compelling evidence that the church did not have any job-related reason for dismissing the employee. The implication is that the church’s decision to terminate the employee was a product of unlawful discrimination.
5. Congress added section 409A to the tax code in 2004 in response to public outrage over the Enron scandal. Section 409A imposes strict new requirements on most nonqualified deferred compensation plans (NQDPs). In 2007, the IRS published final regulations interpreting section 409A. The final regulations define a NQDP broadly to include any plan that provides for the deferral of compensation. This definition is broad enough to include severance agreements and many other kinds of church compensation arrangements. Any church that is considering a severance agreement with a current employee (or any other arrangement that defers compensation to a future year) should contact an attorney to have the arrangement reviewed to ensure compliance with both section 409A and the final regulations. Such a review will protect against the substantial penalties that the IRS can assess for noncompliance. It also will help clarify if a deferred compensation arrangement is a viable option in light of the limitations imposed by section 409A and the final regulations.
6. Of course, it is important for an attorney to draft any severance agreement to be sure that it will be legally enforceable, and complies with all applicable laws.
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