Annual Leave Tax 2026: Why Your $22K Payout Becomes $14K

Last Updated: May 3, 2026 Reading Time: 11 min

A GS-13 Step 10 in DC retires with 240 hours of accumulated annual leave. Their hourly rate (annual salary / 2,087) is $75.86. Gross lump-sum payout: $18,206. Then the withholding hits. 22% federal flat rate. 6.2% Social Security. 1.45% Medicare. 5.75% Virginia state tax. Total withheld: $6,445. Net to the bank account: $11,761. The retiree expected something close to $18K because they "earned" the leave throughout their career. They got $11,761. The reaction across r/fednews and r/govfire is consistent: "They took 40%?" Yes, they did. And it gets worse for higher grades and higher-tax states. A GS-15 at the EX-IV cap with 240 hours nets $14,650 in Virginia, $11,115 in California, $10,851 in NYC. An SES with 720 hours nets $42,324 from a $65,549 gross payout. This guide is the full math: what gets withheld, why the 2026 numbers changed (the SS wage base is $184,500, not the $176,100 most older articles still cite), and 6 strategies that can recover $1,000-$4,000+ depending on your situation.

Key Takeaways

• The lump-sum payout is supplemental wages, not retirement pay. Federal flat withholding is 22% (37% over $1M YTD). Plus SS, Medicare, and state tax. Total often hits 30-40%+.
• 2026 Social Security wage base: $184,500 (not the $176,100 most older articles still cite). High earners who retire after hitting the cap save the 6.2% SS withholding on the lump sum.
• The 4-tax stack: federal 22% + SS 6.2% (up to wage base) + Medicare 1.45% (no cap; +0.9% over $200K) + state (0% to 10.75%). Combined withholding can range from 23.5% (no-state-tax + over SS cap) to 41%+ (NYC + full SS).
• Sick leave is completely different. It converts to additional FERS service credit at 2,087 hours = 1 year of service. No cash. No tax. Confusing the two is the most common misconception.
• You CANNOT direct the lump sum into TSP or IRA. It is processed through payroll. After receipt, you can contribute to an IRA up to the annual limit ($7,500 / $8,600 at 50+).
• Phased retirement does NOT trigger the lump-sum payout. Leave keeps accruing until full retirement, then pays out as a single (larger) lump sum.

The 4-Tax Stack: What Actually Gets Withheld

Tax	Rate (2026)	Notes
Federal income tax (supplemental wages)	22% flat	37% if YTD supplemental wages exceed $1M (rare for federal employees)
Social Security (OASDI)	6.2%	Applies to wages up to the $184,500 2026 wage base
Medicare (HI)	1.45%	No wage base cap
Additional Medicare Tax	+0.9%	Wages over $200K (single) / $250K (MFJ); employer withholds at $200K threshold regardless of filing status
State income tax	0% to 10.75%	Depends on residence at time of payment

The combined math, common scenarios:

• Virginia resident, full SS exposure: 22 + 6.2 + 1.45 + 5.75 = 35.4%
• DC resident, full SS exposure: 22 + 6.2 + 1.45 + 8.5 = 38.15%
• Florida / Texas / Tennessee / Nevada / Washington (no state tax), full SS exposure: 22 + 6.2 + 1.45 + 0 = 29.65%
• New York City resident, full SS exposure: 22 + 6.2 + 1.45 + 10.7 = 40.35%
• High earner past SS cap, Virginia: 22 + 0 + 1.45 + 5.75 = 29.2%

The state tax piece often surprises DC-area federal employees. Most live in Virginia or Maryland (5.75% to 8.95% combined), not DC itself. Many older articles incorrectly assume "DC employees pay DC tax." Correct by residence, not work location.

The 5-Tier Withholding Matrix

This is the original data centerpiece. Withholding outcomes by GS grade and leave balance, assuming Virginia resident with full SS exposure (most common scenario).

Profile assumptions: 2026 OPM GS pay tables, Washington DC locality (33.94% factor); GS-15 Step 10 capped at $197,200 (Executive Level IV); SES illustrative mid-range $190,000 (no locality adjustment); FICA wage base not yet reached at retirement (conservative); 22% federal supplemental rate.

Grade	Annual Salary	Hourly Rate	160 hrs (4 wks) gross/net	240 hrs (6 wks) gross/net	480 hrs (12 wks) gross/net	720 hrs (SES, 18 wks) gross/net
GS-12 Step 10 DC	~$139,300	$66.77	$10,683 / $6,901	$16,025 / $10,352	$32,050 / $20,704	N/A
GS-13 Step 10 DC	~$158,300	$75.86	$12,138 / $7,845	$18,206 / $11,761	$36,413 / $23,531	N/A
GS-14 Step 10 DC	~$187,200	$89.70	$14,352 / $9,275	$21,528 / $13,907	$43,056 / $27,814	N/A
GS-15 Step 10 DC	$197,200 (cap)	$94.49	$15,118 / $9,766	$22,678 / $14,650	$45,355 / $29,299	N/A
SES mid-range	$190,000	$91.04	$14,566 / $9,410	$21,850 / $14,115	N/A	$65,549 / $42,324

The SES case is the largest single hidden tax event in federal retirement: a 720-hour balance generates a $65,549 gross payout, of which $23,225 is withheld in this scenario. Higher state tax raises that further.

State-by-State Comparison (GS-13 Step 10 DC, 240 hrs = $18,206 gross)

The state-residence variable is enormous on a per-payout basis. Same employee, same payout, vastly different net.

Residence	Federal (22%)	SS (6.2%)	Medicare (1.45%)	State	Total withheld	Net of $18,206
Virginia	$4,005	$1,129	$264	$1,047 (5.75%)	$6,445 (35.4%)	$11,761
Maryland (with local)	$4,005	$1,129	$264	$1,247 (~6.85%)	$6,645 (36.5%)	$11,561
DC	$4,005	$1,129	$264	$1,547 (8.5%)	$6,945 (38.2%)	$11,261
Florida / Texas / Tennessee	$4,005	$1,129	$264	$0	$5,398 (29.6%)	$12,808
California (9.3%)	$4,005	$1,129	$264	$1,693	$7,091 (39.0%)	$11,115
New York City	$4,005	$1,129	$264	$1,957 (10.7%)	$7,355 (40.4%)	$10,851

The Virginia-vs-Florida gap is $1,047 on a $18,206 payout. Move to a no-state-tax state before the lump sum is paid (not just before retirement) and you save the state tax in full. Domicile change requires more than a forwarding address; consult a tax professional familiar with federal employee transitions.

The SS Wage Base Trap (and Opportunity)

The 2026 Social Security wage base is $184,500, not $176,100. The latter is the 2025 figure that most older articles still cite. This matters a lot for the timing of your retirement.

The trap: If you retire December 31 of year X and your lump sum is paid in January of year X+1, the SS clock resets. The full 6.2% applies to the lump sum even if your year X wages were well over $184,500.

The opportunity: If you are a high earner whose YTD salary already exceeds $184,500 (GS-15 DC hits this in late October; GS-14 DC in early November), retiring in November or early December gets your lump sum paid in the same calendar year. SS withholding drops to zero on the entire lump sum.

Worked example, GS-14 with 240 hours ($21,528 gross):

• January retirement (SS cap not yet hit): withholding 35.4% = $7,621. Net $13,907.
• November retirement (SS cap already hit): withholding 29.2% = $6,286. Net $15,242.
• Savings: $1,335 from a single timing decision.

For SES at 720 hours, the same timing decision is worth roughly $4,064.

Sick Leave vs Annual Leave: The Most Common Misconception

These two are not the same thing. They get confused constantly.

Annual leave converts to a cash lump-sum payment at separation. Fully taxable as supplemental wages. Subject to all 4 taxes above.

Sick leave converts to additional service credit for your FERS pension formula. No cash. No taxes. Every 2,087 hours of unused sick leave equals approximately one additional year of service in the pension formula. For a GS-13 retiree with $138,000 high-3 and 25 years of service, an extra year of service adds $1,380/year to the pension (at the 1% multiplier) for life. With COLA. That is roughly $34,500 over 25 years from the sick leave conversion alone, with no tax event at all.

The asymmetry: save your sick leave aggressively, use your annual leave strategically. The opposite of what many federal employees do.

Phased Retirement Tax Note

Entering phased retirement does NOT trigger the lump-sum payout. Leave stays on the books and continues to accrue at a prorated rate based on hours worked (typically half-time = half accrual rate). The full accumulated balance pays out at final retirement.

This compounds the exposure. A federal employee who enters phased retirement at MRA with 240 hours of leave, then phases for 3 years before fully retiring, may have accumulated 280-300 hours by final separation. The lump sum is correspondingly larger and the tax event correspondingly bigger. Phased retirement participants should plan their final retirement date with the lump-sum tax event in mind.

For full Phased Retirement context, see our Phased Retirement Guide.

6 Strategies to Keep More of Your Lump Sum

1. Use leave aggressively before retirement

The single most reliable strategy. Annual leave used before retirement is taxed at your normal W-4 withholding rate, which often matches your actual bracket better than the flat 22% supplemental rate. It also reduces the YTD wage stacking effect that triggers the Additional Medicare Tax for high earners.

Rule of thumb: if you are approaching the 240-hour cap, using 80-100 hours per year before retirement keeps the payout in a manageable range. Trade-off: once used, the leave is gone, so factor in flexibility if your retirement plans might shift.

2. Time retirement to hit the SS wage base cap

For GS-15 DC ($197,200), the $184,500 SS cap is hit around late October. For GS-14 DC ($187,200), early November. Retiring November or early December and receiving the lump sum in the same calendar year saves the 6.2% SS withholding on the entire lump sum. Worth $1,300-$4,000+ depending on grade and balance.

3. Split the tax year (December 31 retirement, January payout)

If you expect to be in a much lower bracket the year after you retire (pension + modest TSP withdrawals = 12% or 22% bracket), retiring December 31 and receiving the lump sum in January separates the payout from the high-salary year. The 22% withholding may be too high relative to your actual rate, and you get a refund at filing.

This works best for retirees whose post-retirement income drops substantially. It does NOT work for SES retirees with high pensions or dual-earner households where retirement income is similar to working income.

4. Maximize TSP contributions in final months

Each dollar into traditional TSP reduces the W-2 income that stacks with the lump sum. Maxing TSP ($24,500 in 2026, $32,500 if 50+, $35,750 if 60-63) in the final months can keep a high earner under the Additional Medicare Tax threshold or knock down the marginal bracket. TSP contributions are NOT deducted from the lump-sum payment itself; this strategy reduces regular pay taxable income.

5. Fund an IRA after receiving the lump sum

The lump sum counts as earned income. You can contribute up to the annual IRA limit ($7,500, or $8,600 if 50+ in 2026). Traditional IRA deduction phases out at $83,000-$93,000 single (covered by retirement plan at work) for 2026, so most retiring GS-13+ employees won't get the deduction. Roth IRA phase-out is $153,000-$168,000 single, $242,000-$252,000 MFJ. The lump sum may push some retirees past the Roth phase-out in the retirement year. Backdoor Roth remains available at any income.

For TSP-heavy retirees, the indirect IRA-to-TSP rollover workaround is documented but only works if your TSP remains open. See our TSP vs IRA Rollover Decision blog for the rollover mechanics.

6. Move to a no-tax state before the payout

If you plan to relocate to Florida, Texas, Tennessee, Nevada, Washington, or another no-state-income-tax state, the lump sum is taxed based on your state of residence at the time of payment. A retiree who separates December 31 from Virginia and is fully domiciled in Florida by the January payment date may avoid state income tax on the entire lump sum (saves $1,000-$4,000+ depending on payout size).

Caution: domicile rules require physical presence + intent to remain. Forwarding addresses alone are not enough. Virginia in particular requires formal change-of-domicile documentation and can audit aggressively.

Audience Cuts

Federal employees within 12 months of retirement (most actionable)

You can still act. Run your projected leave balance now via the Federal Leave Optimizer. Model two retirement dates: November 30 vs December 31 vs January 1. The right answer depends on your state, YTD wages at retirement, and post-retirement income bracket.

SES members (highest dollar exposure)

720 hours at $91/hr = $65,549 gross. After Virginia withholding, $42,324 net. The single largest hidden tax event in federal retirement. Model: (a) drawing the balance down by 240 hours before retirement while staying effective, (b) retiring before the calendar year boundary to use the SS cap, and (c) whether the combined retirement-year income pushes past the $200K Additional Medicare Tax threshold for a single filer.

Retirees who already separated (post-mortem guidance)

The 22% flat withholding may have over-withheld your actual liability. Run your retirement-year taxes using a calculator that includes your pension, Social Security (if applicable), and TSP withdrawals. You may get a refund on the federal income tax portion at filing. Social Security withholding is final (no refund mechanism unless you paid SS on wages above the wage base). Check whether the lump sum increased your provisional income for SS taxation, IRMAA Medicare surcharges (2-year lookback), or disqualified you from Roth IRA contributions in the retirement year.

Phased retirement participants

The lump sum delays to final retirement. Plan the final separation date carefully because the leave balance at final retirement may be substantially larger than at typical separation.

Federal employees planning state moves

The lump sum is taxed based on residence at payment date. Time the move before the lump sum is paid, not after. Domicile change requires formal documentation. Consult a tax professional familiar with state-residency rules for federal retirees.

Run Your Numbers Before You Set the Retirement Date

Three concrete steps:

1. Use the Federal Leave Optimizer to project your accumulated balance at any candidate retirement date.
2. Use the GS Pay Calculator to confirm your current hourly rate (annual salary / 2,087).
3. Use the FERS Retirement Calculator to model how retirement timing interacts with pension start, FERS Supplement (if eligible), and TSP withdrawal sequencing.

For broader retirement-timing context, see our Best Dates to Retire 2026 for the standard calendar of optimal retirement dates. For TSP withdrawal sequencing in retirement, see our TSP vs IRA Rollover Decision blog and our TSP + Roth IRA Tax Strategy blog. For MRA+10 retirees thinking about postponing (which can also affect the lump-sum timing decision), see our MRA+10 Lifetime Cost guide. For full FERS context, see the FERS Retirement Guide 2026.

Project your leave balance and lump sum →

Frequently Asked Questions

Is my annual leave payout taxed as income?

Yes. The lump-sum payment for accumulated annual leave is classified as supplemental wages under IRS Publication 15 and is fully subject to federal income tax, Social Security, Medicare, and state income tax. It is not tax-free, despite being based on leave you "earned" throughout your career.

Why does the government withhold 22% when my actual tax bracket might be lower?

The IRS requires employers to use the flat 22% supplemental wage withholding rate (37% for amounts over $1 million in a year). This is a withholding method, not your final tax rate. If your actual bracket in the retirement year is lower than 22%, you will receive a refund of the difference when you file your return.

Do I owe Social Security tax on my annual leave payout?

Generally yes for FERS employees, up to the 2026 wage base of $184,500. If your YTD wages have already reached $184,500 before the lump sum is paid, no Social Security tax applies. This is why high-earning GS-14 and GS-15 employees sometimes benefit from retiring in November rather than December or January.

Can I roll my annual leave payout into my TSP or an IRA to avoid taxes?

No direct contribution is allowed. The lump sum is processed through payroll and taxes are withheld before you receive it. You cannot instruct your payroll office to route it to TSP or an IRA. After receiving the net payment, you can use the funds to contribute to a traditional or Roth IRA (subject to income limits and the annual $7,500 / $8,600 limit at age 50+). That IRA contribution may then be rolled into your TSP account if your TSP remains open.

What is the difference between sick leave and annual leave at retirement?

They are completely different. Annual leave converts to a cash lump-sum payment, fully taxable. Sick leave converts to additional service credit for your FERS pension. There is no cash payment and no taxes owed on sick leave. Every 2,087 hours of sick leave equals approximately one additional year of service in the FERS pension formula, which permanently increases your monthly annuity.

Should I use my annual leave before I retire or take the lump sum?

It depends on your tax situation. Using leave before retirement spreads the income over regular pay periods at your normal W-4 withholding rate, which often matches your actual bracket better than the flat 22% supplemental rate. The lump sum is automatically withheld at 22% regardless. In a high-tax state, using leave before retirement can reduce total withholding. If you expect to be in a much lower bracket the year after you retire, saving the leave for the lump sum may result in lower final taxes at filing.

How is my lump-sum hourly rate calculated?

Your annual salary (including locality pay) is divided by 2,087, the standard work hours in a federal employee year. Locality pay, special salary rates, AUO pay, and availability pay are included. Post differentials for overseas assignments and hazardous duty pay are excluded under 5 USC 5551. Multiply your hourly rate by your accumulated leave hours.

What is the maximum annual leave payout I can receive?

Most General Schedule employees can carry up to 240 hours into a new leave year. Add hours accrued during the retirement year (typically 4-8 hours per pay period depending on years of service), and the maximum payout is approximately 448 hours. SES members can carry 720 hours and receive substantially larger payouts.

What happens if I am rehired by the federal government after receiving the lump sum?

Under 5 USC 5551(b), if you are rehired before the "lump-sum leave period" expires (the number of work days the leave would have covered), you must refund the overlapping portion. The leave period is calculated from the day after separation. Reemployment within that window triggers a partial refund.

Do phased retirees receive the lump-sum payout when they enter phased retirement?

No. Entering phased retirement does NOT trigger the lump-sum payout. Leave stays on the books and continues to accrue at a prorated rate based on hours worked. The full accumulated balance pays out at final retirement. This delays and can increase the tax event for phased retirees.

Related Resources

• Federal Leave Optimizer: Project your accumulated leave balance at any candidate retirement date
• GS Pay Calculator: Confirm your current hourly rate (annual salary / 2,087)
• FERS Retirement Calculator: Model retirement timing, pension start, and TSP sequencing
• Best Dates to Retire 2026: Calendar of optimal retirement dates with annual leave + pension considerations
• TSP vs IRA Rollover Decision 2026: What to do with TSP at retirement (including the IRA contribution workaround)
• TSP + Roth IRA Tax Strategy 2026: Save $480 to $3,080/yr in retirement taxes with diversification
• MRA+10 Lifetime Cost 2026: The 4-penalty stack for early retirees
• Phased Retirement Guide 2026: Why phased retirement defers (and grows) the lump-sum payout
• FERS Retirement Guide 2026: Pillar guide on FERS service credit, MRA, and pension math

Sources: 5 USC § 5551 (lump-sum payment authority) · 5 CFR Part 550 Subpart L (computation regulation) · OPM Fact Sheet: Lump-Sum Payments for Annual Leave · IRS Publication 15 (Circular E) 2026 · IRS Publication 15-A 2026 (Supplemental Wage Withholding) · IRS Topic 751 (SS and Medicare rates) · IRS Topic 560 (Additional Medicare Tax) · SSA Contribution and Benefit Base ($184,500 for 2026) · OPM 2026 Salary Table 2026-DCB · IRS 2026 IRA limits