A SUB plan, short for Supplemental Unemployment Benefit plan, is an employer-funded arrangement that tops up state unemployment insurance for workers who lose their jobs involuntarily. The employer calculates a weekly payment that, combined with the state unemployment check, roughly restores the worker’s former take-home pay. The reason employers use this structure instead of writing ordinary severance checks is tax treatment: when the plan meets IRS rules, the payments are not “wages,” so neither side owes Social Security, Medicare, or federal unemployment tax on the money.
How the Weekly Payment Works
The employer sets up a written plan that promises periodic payments to laid-off employees for as long as they are collecting state unemployment. The plan spells out who qualifies, how much they receive, and how long payments last. Money comes either from a dedicated trust or from the company’s general assets.
The math is simple. If a worker earned $1,000 a week before the layoff and the state unemployment check is $400, the SUB payment covers the remaining $600. The combined amount is designed to match prior earnings so the layoff doesn’t immediately break the household budget.1SHRM. What Is an Unemployment SUB Plan and How Can It Help My Employer Save Money During a Reduction in Force Payments go out weekly or biweekly, tracking the state’s disbursement schedule.
There is no federal cap on how long SUB payments can continue. Duration depends on the plan’s design, its funding, and often the employee’s seniority. Payments stop when the worker finds a new job or when state unemployment benefits run out, because the whole structure depends on the worker actively receiving state aid.
Who Qualifies for SUB Payments
Two conditions must both be true. The separation has to be involuntary, meaning a layoff, plant closure, or reduction in force rather than a resignation or a termination for cause. And the worker has to be approved for and actively collecting state unemployment insurance.2Duke Law Journal. Unemployment Insurance – Supplemental Unemployment Benefit Plans
That second condition has teeth. The worker must register with the state employment office, meet job-search reporting requirements, remain available for suitable work, and serve any state waiting period.2Duke Law Journal. Unemployment Insurance – Supplemental Unemployment Benefit Plans Miss any of those and the state cuts off unemployment, which automatically ends the SUB payments too. There is no standalone SUB benefit for someone who isn’t simultaneously drawing state aid.
Most state unemployment programs run around 26 weeks, though the exact duration varies. Once state benefits expire or are denied, SUB eligibility ends with them. Some plan documents add their own termination triggers, such as a dollar cap or a calendar limit, but the tie to state unemployment always sets the outer boundary.
How SUB Payments Are Taxed
The tax point is what makes the whole structure worthwhile. When a plan meets IRS requirements, the payments are not wages for payroll tax purposes. Neither the employer nor the employee owes the 6.2% Social Security tax, the 1.45% Medicare tax, or the 6% federal unemployment (FUTA) tax on the money.3Internal Revenue Service. IRS Technical Advice Memorandum – SUB Pay and FICA/FUTA
The savings are real but partial. SUB payments are still fully taxable as ordinary income for federal income tax purposes, and the employer withholds income tax from each payment using the worker’s W-4 just as it would from a regular paycheck. The employee still owes income tax, but the combined payroll tax savings for the two sides can run 7% to 8% of the total benefit compared to the same amount paid as severance.
SUB Plan vs. Severance
Standard severance pay is legally classified as wages. That triggers every payroll tax that applies to a normal paycheck, and in many states it delays or reduces the worker’s unemployment benefits because the state counts it as continued earnings. A worker who gets a lump-sum severance check may not qualify for state unemployment until the severance period runs out, which undercuts the safety net the check was supposed to provide.
A SUB plan flips that. Because the IRS does not treat qualifying SUB payments as wages, they don’t interfere with the worker’s state unemployment eligibility. The employee collects full state benefits and the SUB payment on top. The employer avoids the employer-side payroll taxes it would owe on a severance payment of the same size. That is why SUB plans show up most often in large-scale layoffs, where the aggregate savings become meaningful.
The tradeoff is complexity. A severance check is simple: calculate the amount, cut the check, report it as wages. A SUB plan needs a written plan document, coordination with state unemployment offices, periodic payments tied to each worker’s state benefit status, and continued compliance with IRS rules that can trigger reclassification if something slips.
What the IRS Requires
The IRS laid out the rules in Revenue Ruling 90-72, and the requirements are specific enough that a mistake can reclassify every payment as taxable wages after the fact. A qualifying plan has to meet all of the following:
- The plan is established in writing before any payments begin. Informal or verbal arrangements do not qualify.
- Benefits are limited to employees who lose their jobs involuntarily through layoffs, reductions in force, or similar employer-initiated actions.
- Payments are conditioned on the worker actually receiving state unemployment insurance. A plan that pays regardless of state benefit status fails this test.
- Benefits are paid periodically, not in a lump sum. A one-time payment structured as a SUB benefit will be reclassified as wages.
The linkage requirement is where most plans succeed or fail. Revenue Ruling 90-72 holds that SUB pay is excluded from wages for FICA and FUTA only when receipt is actually tied to the worker’s receipt of state unemployment compensation.3Internal Revenue Service. IRS Technical Advice Memorandum – SUB Pay and FICA/FUTA If the plan document creates the linkage on paper but the employer pays out regardless of state benefit status, the IRS can reclassify the whole arrangement.
When that happens, the fallout stacks up fast. The employer owes back FICA and FUTA on every dollar already paid, plus interest and possible penalties. Workers may have to amend their tax returns. That is why employers usually bring in benefits counsel or a third-party administrator instead of running the plan themselves.4Internal Revenue Service. IRS Private Letter Ruling 0322012
Funding Through a Tax-Exempt Trust
Employers can pay SUB benefits directly from general assets or fund them through a dedicated trust. The trust route adds tax advantages because contributions are deductible and the trust itself can qualify for tax-exempt status.
Two Internal Revenue Code sections apply. Section 501(c)(17) was written specifically for supplemental unemployment benefit trusts and is the more common path. A SUB trust can also qualify as a Voluntary Employees’ Beneficiary Association (VEBA) under Section 501(c)(9), which covers a broader range of employee welfare benefits.5Internal Revenue Service. IRS Publication 5727 – Exempt Organizations Technical Guide TG 17 – Supplemental Unemployment Benefit Trusts IRC Section 501(c)(17) The choice depends on the trust’s investment income profile and whether the employer wants to combine SUB benefits with other welfare benefits in one trust.
ERISA Compliance
A SUB plan is a welfare benefit plan, so it falls under the Employee Retirement Income Security Act (ERISA). That triggers a few administrative duties.
The most visible one is the annual Form 5500 filing with the Department of Labor.6Department of Labor. 2025 Instructions for Form 5500 Annual Return/Report of Employee Benefit Plan A small-plan exemption is available: if the plan covers fewer than 100 participants at the start of the plan year and is unfunded or fully insured, no Form 5500 is required.7Internal Revenue Service. Form 5500 Corner Many SUB plans built for a single reduction in force stay under that threshold. Larger employers or companies with rolling layoffs may not.
ERISA also requires the employer to give every eligible participant a Summary Plan Description. The SPD names the plan, describes eligibility and benefits, identifies the plan administrator, and explains the claims process.8eCFR. 29 CFR 2520.102-3 – Contents of Summary Plan Description Skipping the SPD isn’t just a paperwork problem. Workers who don’t understand the plan’s rules are more likely to miss state unemployment deadlines, and missed deadlines break the linkage the tax treatment depends on.
When a SUB Plan Is Worth Setting Up
Not every employer needs one. The legal fees, administrative overhead, and compliance risk make SUB plans impractical for a company letting go of a few people. Where they earn their keep is in large-scale workforce reductions, plant closures, and seasonal industries with predictable, recurring layoffs.
The math favors a SUB plan when total separation payments are large enough that payroll tax savings outweigh setup and administration costs. For a company laying off 200 workers and providing 26 weeks of supplemental benefits, combined employer and employee FICA savings alone can reach six figures. The employer also avoids FUTA on those payments and sidesteps the risk that severance checks will delay workers’ access to state unemployment.
Manufacturing, automotive, and energy employers have used SUB plans for decades because layoffs happen often enough to justify keeping a standing plan and trust in place. For a one-time small layoff, traditional severance is usually simpler even though the tax cost is higher.