Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.
Principal Issues: Taxation of a proposed settlement of a wrongful dismissal suit.
Position: Taxable retiring allowance except amounts paid as a reimbursement of legal expenses, which is taxable under paragraph 56(1)(l.1) to the extent that the underlying legal expenses are deductible under paragraph 60(o.1).
Reasons: Payment is in respect of damages for loss of employment. None of the exceptions in paragraph 12 of IT-337R4 apply. Even if pre-settlement interest had been identified in the proposed agreement, the interest would have been taxable, albeit under paragraph 12(1)(c) instead of as a retiring allowance.
XXXXXXXXXX T. Young, CA
2004-009188
September 24, 2004
Dear XXXXXXXXXX:
Re: Wrongful Dismissal Claim
We are writing in reply to your advance income tax ruling request dated August 14, 2004, concerning the proposed settlement of the above-mentioned claim.
Background
In XXXXXXXXXX, you relocated from XXXXXXXXXX, to XXXXXXXXXX, to accept a job with XXXXXXXXXX. (your "Former Employer"). In XXXXXXXXXX, after approximately XXXXXXXXXX months, your employment was terminated. In XXXXXXXXXX, you accepted employment with another employer and relocated to XXXXXXXXXX.
A settlement has been proposed whereby your Former Employer will pay you a total of $XXXXXXXXXX, which includes amounts that will be paid to your lawyer. The details of the settlement are included in the "XXXXXXXXXX" (the "Agreement"). You asked us for a ruling allocating the $XXXXXXXXXX as follows:
Pre-settlement interest $XXXXXXXXXX
Capital damages (Loss on sale XXXXXXXXXX homes) XXXXXXXXXX
Relocation costs (to XXXXXXXXXX and to XXXXXXXXXX) XXXXXXXXXX
Retiring allowance XXXXXXXXXX.
In your view, the first three items would be non-taxable damages. As we discussed in our telephone conversations (Young/ XXXXXXXXXX) of September 20 and 21, we are unable to provide the ruling you requested. Accordingly, a refund of your deposit will be sent to you under separate cover. However, based on the information you provided, we offer the following comments that we trust will be of assistance.
Subparagraph 56(1)(a)(ii) of the Income Tax Act (the "Act") requires a taxpayer to include in computing income for a taxation year the amount of a retiring allowance received by the taxpayer in the year. The definition of "retiring allowance" in subsection 248(1) of the Act includes an amount received "in respect of a loss of an office or employment of a taxpayer, whether or not received as, on account or in lieu of payment of, damages or pursuant to an order or judgment of a competent tribunal."
Interpretation Bulletin IT-337R4, Retiring Allowances discusses what is meant by a retiring allowance and its treatment for income tax purposes. Paragraph 9 of IT-337R4 states that "generally, compensation received by an individual from the individual's employer or former employer on account of damages may be employment income, a retiring allowance, non-taxable damages, or a combination thereof. Paragraph 11 of IT-337R4 states that "where an individual receives compensation on account of damages as a result of a loss of employment, the amount received will be taxed as a retiring allowance. This applies to both special damages, as well as general damages received for loss of self-respect, humiliation, mental anguish, hurt feelings, etc."
In your particular case, the Agreement describes the payment as "$XXXXXXXXXX ... less applicable statutory deductions, and less monies paid directly to the law firm of ... on account of legal fees, disbursements and taxes thereon..." Because the agreement does not identify a breakdown of the payment, we are of the view that the entire $XXXXXXXXXX, except for payments on account of legal expenses, is a taxable retiring allowance. For this reason and for the reasons discussed below, we cannot provide the ruling you requested.
Legal Expenses
Paragraphs 25 to 28 of interpretation bulletin IT-99R5(Consolidated), Legal and Accounting Fees, discuss the treatment for income tax purposes of legal and accounting expenses. In general, paragraph 60(o.1) of the Act allows taxpayers to deduct legal expenses paid in the year or the preceding seven years to collect or establish a right to a retiring allowance. The amount deductible is limited to the retiring allowance received and included in income in the year plus reimbursed legal fees included in income pursuant to paragraph 56(1)(l.1) of the Act minus amounts transferred to a registered pension plan or registered retirement savings plan under various provisions in section 60 of the Act.
Any amounts received as a reimbursement of related legal expenses must be included in income pursuant to paragraph 56(1)(l.1) of the Act. Therefore, the reimbursement of legal expenses (including those paid directly to your lawyer) must be included in income. This inclusion in income may be offset by the deduction available under paragraph 60(o.1).
For more detailed information, please refer to the interpretation bulletin.
Pre-judgement (or Pre-settlement) Interest
Interest income is included in income by virtue of paragraph 12(1)(c) of the Act. However, for court orders or settlement agreements for wrongful dismissals dated before 2004, on an administrative basis, the Canada Revenue Agency treated pre-judgement interest on a retiring allowance as non-taxable. As well, in order for this administrative position to apply, the amount of pre-judgement interest had to be explicitly identified in the court order or settlement agreement. Therefore, because the Agreement was not dated before 2004 and did not identify any portion as pre-settlement interest, the administrative position does not apply and the pre-settlement interest is taxable. For more information, please refer to our Income Tax Technical News 30.
Loss on Sale of Homes and Relocation Costs
As noted above, since the Agreement does not specify amounts in respect of these claims, they do not impact the taxation of the amounts received under the Agreement.
Employment Insurance Benefits Repayment
You stated that, as a result of the settlement, you will be required to repay a portion of the Employment Insurance ("EI") benefits you received in XXXXXXXXXX and XXXXXXXXXX. You enquired how to claim the repayment on your personal income tax return. EI benefits that have been repaid in the year may be claimed on line 232 of the T1 Income Tax and Benefit Return. For more information, please refer to the General Income Tax and Benefit Guide.
The publications referred to above may be found on our web site at www.cra.gc.ca. We trust our comments will be of assistance to you.
Yours truly,
John Oulton, CA
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Planning Branch
All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5
© Her Majesty the Queen in Right of Canada, 2004
Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistributer de l'information, sous quelque forme ou par quelque moyen que ce soit, de facon électronique, méchanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.
© Sa Majesté la Reine du Chef du Canada, 2004
Email this Content