Severance pay is a type of “special payments,” per the Social Security Administration rules. The list includes bonuses, back payment for unused vacation pay or sick leave, standby pay, sales commissions and other various types of deferred compensation such as stock options.
Usually these are payments for work you did prior to retirement or before drawing your Social Security benefit, and usually these payments will not affect your benefit amount. These various amounts may be on your W-2 in the box labeled “Nonqualified Plan.” Or, there is a special form that employers can file called SSA-131 which refers to Special Wage Payments.
If you are self-employed and net income received after the first year you retire will be considered as a special payment if you performed the services prior to your entitlement to Social Security benefits. The definition of “Services” is any regular work or other significant activity you do for your business.
Two occupational groups that commonly receive earnings defined as special payments are insurance salespeople who receive repeat or renewal commissions and farmers who receive income from carryover crops. As long as the work was performed prior to date of retirement, these residual payments do not affect your Social Security earnings. In the case of farmers who harvest and store crops one year to be sold the next, if the work was completed the year before retirement then earnings the next year when crops are sold will not affect Social Security benefits.
If your total yearly earnings exceed the maximum earnings per the Earnings Limitations rule and these earnings include a “Special Payment” that was not properly reported, you need to contact the Social Security Administration for a review.
We cannot emphasize enough the need to plan for retirement. Social Security is only one component to the process – need to review Medicare options, 401K options and review needed income before you make this big decision. Seek out professionals that can help you make the most of this next phase of life that you have worked so tirelessly to enjoy. Two years before you think you may want to retire is a good starting place.