Severance plans are generally covered under ERISA, but it is not always easy to distinguish an ERISA-covered severance plan from a non-ERISA severance policy. There are advantages and disadvantages to being an ERISA-covered plan, which further complicates the situation. For example, an advantage to ERISA coverage is that the employer can reserve to itself discretion to decide claims, which discretion will be respected by a court so long as the decision was not arbitrary and capricious. Disadvantages to ERISA coverage are that a Form 5500 may need to be filed annually, employees can bring a federal court lawsuit alleging a violation of ERISA, and prevailing claimants can recover attorneys' fees. A recent decision by the United States Court of Appeals for the Second Circuit highlights the fact that even where an employer believes it has established a severance policy and has not explicitly characterized that policy as an ERISA plan, the arrangement may in any event be considered a plan subject to ERISA's requirements.

In the decision, a former employee claimed a violation of ERISA relating to the former employer's failure to provide him with severance benefits. The lower federal court concluded that the employer's policy was not an ERISA plan and that the court therefore did not have jurisdiction over the claim. The policy in question explicitly stated that it "may be changed, modified or discontinued at any time by … [the employer], with or without notice." The Court of Appeals reversed the lower court and found that the plan was an ERISA plan.

The Second Circuit held that there were three nonexclusive factors that courts should use to distinguish a non-ERISA policy from an ERISA plan: (1) whether the employer’s obligation requires managerial discretion in its administration; (2) whether a reasonable employee would perceive an ongoing commitment by the employer to provide benefits; and (3) whether the employer is required to analyze the circumstances of each employee’s termination separately in light of certain criteria to determine whether benefits were owed.

The severance policy considered by the Second Circuit provided that full-time physicians terminated without cause were entitled to 12 months' notice of termination or six months' severance pay, and that those with more than 15 years of service were entitled to an automatic review by the president of the amount of severance pay. It appears that the payment would have been made in a lump sum, although this is not clear from the decision.

The court decided that discretion was needed to determine whether a physician had been terminated other than for cause. It further concluded that the fact that the severance policy had been in place since 1987 and had not been revised since 1996 indicated an ongoing commitment by the employer to provide benefits. The court noted that there is no separate statutory requirement for ERISA welfare plans to be established for the long term, but viewed the fact that the policy had been in existence for a number of years as evidence that the policy was an employee welfare benefit plan. The court also concluded that the benefits were provided to a broad class of employees under a wide variety of circumstances requiring an individualized review whenever employees were terminated. Therefore, according to the court, the policy constituted an ERISA plan.

Not all courts would take the same approach. Some courts focus more on whether benefits are paid over time or in a lump sum -- in other words, whether ongoing administration is required, a factor not emphasized by the Second Circuit.

Employers may wish to consult with their benefits counsel about the pros and cons of ERISA coverage of their severance arrangements and the provisions more likely to be associated with ERISA plans versus non-ERISA payroll policies. Employers can then draft or revise their documents outlining entitlement to severance benefits in a manner consistent with their preference with respect to ERISA coverage. While a court may disagree with the employer's conclusion regarding ERISA coverage, the employer will have done what it can to increase the likelihood that the court will respect the employer's choice of plan versus policy.