Expensing Termination Benefits for GAAP Purposes

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In the normal course of business, employees may be terminated and given a severance package. It is important to know the date of the decision to terminate employment so you can determine when to properly expense termination benefits for GAAP purposes. The timing of the payments does not affect when the expense is accrued; instead, recognition of the expense occurs for the total amount of the severance package based on the date of the decision to terminate the employee.

For example, say an employee is terminated on Jan. 1, 2014, and your year-end is Dec. 31, 2013. Per the termination agreement, the employee is to be paid $5,000 monthly over 6 months (total of $30,000), beginning Jan. 15, 2014.

If the decision to terminate the employee was made prior to Dec. 31, 2013, then the full amount of the termination benefit is accrued as of Dec. 31, 2013. You would record the following entry to accrue for the termination benefits:
 
Termination Expense  $30,000   
Accrued Termination Benefits   $30,000

 You would then record the following entry every time a payment is made to the terminated employee:
 
Accrued Termination Benefits  $5,000  
Cash   $5,000 

If the decision to terminate the employee was not made until after year-end, no accrual is necessary at 2013’s year-end.

Note that for income tax purposes, the termination benefit payments are recognized and deductible when the payments are made. Payments made in 2014 would be deductible in 2014; payments made in 2015 would be deductible in 2015.

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