Most severance packages get built in about ten minutes.
Weeks of pay per year of service. Maybe a few months of COBRA. A lump sum to round it out so the package feels generous. Legal reviews the release, finance signs off on the total, and everyone moves on to the harder parts of the layoff.
The lump sum is where I'd slow down. It's the least examined line in the package. It's also the one that costs the most per dollar the employee actually gets to use.
The short version: cash severance is taxed on both sides and does nothing to change who elects COBRA. A severance health insurance benefit earmarked for non-COBRA coverage does two things cash can't. It puts the same dollars only toward coverage people actually buy, and every person who uses it is one fewer person on COBRA, where the highest-cost claims tend to land. Here's the math.
Is severance pay taxable to both sides?
Yes. Taxable severance is treated as wages, so the employer pays its 7.65% share of Social Security and Medicare tax, and the employee owes income tax plus their own 7.65%. The Supreme Court settled the FICA question in 2014 in United States v. Quality Stores.
On the employer side, the Social Security portion of that 7.65% stops at the annual wage base, so it's lower for high earners who've already hit it. The company can deduct the severance as a business expense, but the deduction doesn't erase the payroll tax.
The employee side is worse. Severance is usually paid as supplemental wages, which means a flat 22% federal withholding, their own 7.65% in FICA, and state tax where it applies.
So a $3,000 severance line arrives as roughly $2,100 in take-home before state tax. The company paid about $3,230 to deliver it.
That's a 35% gap between what the company spends and what lands in the employee's account.
Should severance packages include healthcare?
Yes, if the money is built to get people onto coverage that fits them. Most separation health benefits today are COBRA subsidies, and that version works against the employer. A cash lump sum doesn't fix it either. The better structure is a fixed-dollar healthcare reimbursement that can only be spent on non-COBRA premiums.
Think about what a COBRA subsidy actually does. You take company dollars and use them to make your most expensive coverage option more attractive to your most expensive members, so more of them elect it and stay on your plan longer.
It's like walking into the ICU and handing out membership cards to your health plan. [Internal link: #8, Why Generous COBRA Subsidies Backfire]
Cash looks like the neutral alternative. Hand people money and let them decide. Two things break that logic.
First, cash doesn't change anyone's coverage decision. The departing employee still gets a twenty-page COBRA packet during the worst week of their professional life. People pick the option with the clearest deadline, and the packet is the only thing in their mailbox with one. The ones with a surgery on the calendar elect it, cash or no cash.
And they don't even have to decide right away. COBRA lets someone wait up to 60 days, see what happens, and elect coverage retroactive to the day they lost it. Every separation hands the employee an option on your plan that nobody ever underwrote. A lump sum doesn't close that option. It just pays for the wait.
Second, cash can shrink the help the employee would otherwise get. Severance counts as income, and ACA premium tax credits are based on household income for the year. The enhanced credits expired at the end of 2025, so the income cutoff is back. A lump sum paid in the year someone loses their job can push a household past the cutoff and erase the credit entirely. The company meant to help with coverage. For some people, it made coverage more expensive.
How should employers structure severance: cash or benefit?
Use both, for different jobs. Pay cash for the transition itself: rent, a job search, time to breathe. Put the healthcare dollars in a premium reimbursement that only pays out when someone buys coverage. Framed as severance pay vs. benefits, most companies pick one. The math says split them.
For most companies, the healthcare piece isn't new budget. You're redirecting money that's already leaving the building.
A premium reimbursement works like this. The employer commits a fixed dollar amount per person. The employee enrolls in a non-COBRA plan, shows proof of coverage and payment, and gets reimbursed. Money moves only when someone is actually paying for coverage. If they land a new job or join a spouse's plan, the balance comes back to the employer.
Earmarking the money for non-COBRA coverage does two jobs at once. The first is efficiency. The dollars only go to people who need coverage, and only toward coverage they actually bought. The second shows up on the plan. A COBRA subsidy makes COBRA the cheapest option on the table. A non-COBRA reimbursement flips that, so the better-fitting individual plan becomes the cheaper one. Every person who takes it is a person who isn't on COBRA, and fewer people on COBRA means fewer high-cost claims landing on your group plan.
Structured correctly, premium reimbursements are deductible for the employer and fall outside FICA and FUTA under IRC §106, and they're excludable from the employee's income. "Correctly" is doing real work in that sentence. The employer has to verify the person has coverage, designate the payments as premium reimbursements rather than cash, and make sure the funds go to insurance. Skip a step and you're back to taxable wages with extra paperwork. Your counsel should review the structure against your own severance plan.
Is cash severance or a healthcare benefit more tax-efficient for the employer?
A healthcare benefit structured as a premium reimbursement. Cash severance adds the employer's 7.65% FICA to every dollar and pays everyone, including people who never need coverage. A properly structured premium reimbursement carries no FICA or FUTA and only pays for coverage people actually buy. On a 100-person RIF, the gap looks like this.
Say the company wants to give each person $3,000 toward healthcare, about six months at $500 a month.
Paid in cash, that's $300,000 plus roughly $22,950 in employer FICA. Every one of the 100 people gets paid, including the ones who start a new job with benefits two weeks later.
Paid as a premium reimbursement, the money only moves when someone pays for coverage. Some people land a new job in the first couple of months. Some move onto a spouse's plan. For this example, say 30 people use about $1,000 each before they stop needing it, and the other 70 use the full $3,000.
Cash | Premium reimbursement | |
|---|---|---|
Committed | $300,000 | $300,000 |
Employer FICA | ~$22,950 | $0 |
Actually paid out | $300,000 | $240,000 |
Returned to employer | $0 | $60,000 |
Total employer cost | ~$322,950 | $240,000 |
Value to someone who uses it all | ~$2,110 take-home | $3,000 in premiums |
Verified spent on coverage | Unknown | All of it |
That's about $83,000 less on a 100-person RIF, and every person who needs coverage gets roughly $900 more of it. The usage split is an assumption. Your number moves with how fast your people land somewhere new. The faster they get rehired, the more comes back.
The table only captures the first benefit. The second doesn't fit in a spreadsheet cell. On a self-funded plan, COBRA claims never show up as their own line item. They sit inside total claims, and the cost of last spring's restructuring shows up a plan year later, described as trend.
Which is better for departing employees: cash or healthcare?
For employees who need coverage, a healthcare reimbursement is worth more. Every dollar goes to premiums, it isn't counted as income, and it won't shrink a marketplace subsidy. For employees moving straight onto a new employer's or spouse's plan, cash is better. That's why the right answer is usually a mix, and I'd rather say that plainly.
A reimbursement someone never touches is worth nothing to them, which is why I'd never tell a company to convert its whole severance package into health dollars.
For the person who does need coverage, the math is simple. Their $3,000 buys $3,000 of premiums instead of about $2,100 of whatever. And because a premium reimbursement isn't employer-sponsored coverage, it doesn't disqualify them from premium tax credits. [Internal link: #12, MEC determination]
Sometimes the right answer is COBRA. Someone who has already hit their out-of-pocket maximum for the year shouldn't start over on a new plan in October. A good program says so and circles back at open enrollment.
What neither cash nor a reimbursement does on its own is help someone choose a plan. A 58-year-old with a new marketplace login and a reimbursement balance still has to figure out which of 40 plans covers her cardiologist.
Where When fits
Treating COBRA as the whole answer is like confusing tax filing with financial planning. One satisfies a legal obligation. The other actually manages the decision.
That second part is what we run. When™ Next gives departing employees a marketplace ranked against their own doctors and prescriptions, with COBRA priced next to every option, and licensed, non-commissioned agents who help them pick a plan and enroll.
The When™ Next Contribution is how employers put the split into practice. It's an optional fixed-dollar reimbursement that only pays toward non-COBRA coverage, so the employee enrolls in an individual plan to use it. Clients who add the Contribution to When™ Next see up to an 80% reduction in COBRA enrollment.
COBRA stays available. Nobody gets pushed off the plan, and our agents will tell someone to stay on COBRA when that's the better call for them. We review proof of coverage and payment before any money moves, and unused funds go back to the employer. Your COBRA administrator and plan design stay exactly as they are. COBRA makes the exit compliant. When™ Next makes it managed.
Most cost levers save money by spending employee experience. This one takes cost out at the moment you're trying hardest to do right by the people leaving. Those two goals usually pull against each other. Here they're the same action.
Before the next RIF, run the lump sum through that table. It takes about ten minutes, which is roughly how long it got the first time.
