Ohio Public Law Update; Taxation of Signing Bonuses and Termination Payments

    View Authors December 2004
    Municipal Income Taxation of Signing Bonuses and Termination Payments

    Two recent revenue rulings issued by the Internal Revenue Service (IRS) clarify the federal tax treatment of signing bonuses and employment contract termination payments, with the result that such payments will become subject to municipal income tax (including withholding requirements) in January 2005. In Rev. Rul. 2004-109 and Rev. Rul. 2004-110, the IRS ruled that, beginning January 12, 2005, bonuses paid for signing or ratifying an employment contract and amounts paid by an employer to terminate an employment contract generally are "wages" for purposes of the Federal Insurance Contribution Act (FICA). These rulings reverse older IRS rulings that held to the contrary.

    In general, Ohio municipal corporations may tax employee compensation only to the extent it constitutes wages for FICA purposes. Thus, prior to the effective date of these revenue rulings, signing bonuses and employment contract termination payments generally are not "wages" for FICA purposes and therefore are not subject to municipal income tax. These payments will constitute "wages" for FICA purposes after the effective date of the rulings and will therefore be subject to municipal income tax. Income tax ordinances that have been revised to comply with the recent amendments to Chapter 718 of the Ohio Revised Code should not need to be amended as a result of these rulings. Municipal corporations that have not updated their income tax ordinances to comply with Ohio Revised Code Chapter 718 should amend them both to reflect the recent limitations added to Chapter 718 and to ensure that signing bonuses and termination payments are taxed.