8 June 1998 Income Tax Severed Letter 9802956 - SALARY CONTINUANCE V. SEVERANCE

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues:

Can the amount of a particular payment be treated as a retiring allowance?

Position:

We will endeavor to clarify our position on the nature of such payments. However, in this particular case we would not object to such treatment.

Reasons:

The description of the amount as a “salary continuation payment” as that term is generally used may be a misuse of the term in the circumstances. The amount appears to be a form of severance payment made in periodic payments over the same period of time in which other benefits from employment continued to accrue. At worst the payments are dual nature payments and optimal treatment should be provided to the taxpayer in accordance with the position established in file 9412254.

In contrast we still have concerns on how to distinguish salary continuation from severance payments where significant employment benefits continue and we must endeavor to clarify our position. XXXXXXXXXX

June 8, 1998
HEADQUARTERS HEADQUARTERS
Income Tax Appeals Division W.C. Harding
Michel Carbonneau, Manager (613) 957-8953
Attention: Pierre Picard
980295

XXXXXXXXXX - Retiring Allowance

This is in reply to your memorandum of February 2, 1998, in which you requested clarification with respect to the Department’s position on the payment of retiring allowances as currently set out in paragraphs 3(c), 4 and 6 of Interpretation Bulletin IT-337R3.

In the situation under review by you, the above noted taxpayer’s employment was terminated by his employer XXXXXXXXXX, following negotiations with the employer, the employee agreed to the terms of a plan in lieu of damages for wrongful dismissal. Under the plan the employee continued on the employer’s payroll for a period of 24 months with entitlement to full benefits including the accrual of additional pensionable service.

XXXXXXXXXX

Our Comments

A retiring allowance may generally be paid when there is a retirement or a loss of an office or employment. Paragraph 3(c) of the Interpretation bulletin indicates that neither of these events will be considered to occur when salary and benefits continue to accrue.

Paragraph 4 of the IT Bulletin, notes that it is always a question of fact whether an individual has retired and provides examples of factors that indicate when employment may or may not continue. In this respect the paragraph provides that if pension benefits continue to accrue to the individual, the accrual indicates there is a continuing employment relationship. It should be noted that this is only one indicator and there may be other factors that will indicate otherwise. However, generally, an individual who continues to accrue benefits under a registered pension plan will be considered to be an employee for income tax purposes as it is only employees who can accrue benefits under the registered pension plan rules. It is our understanding that if a non-employee accrues pension benefits, the pension plan would become revocable.

In a situation such as the one you are reviewing there are two primary questions that must be considered. First; has the employee lost his employment? If it is found that an employee has been terminated, then a payment of a retirement allowance may be paid either before or after the date of termination. In an opinion dated November 28, 1996, (our file 9638405) we stated:

“(A) payment "in respect of a loss of an office or employment" is not required by the terms of the definition of "retiring allowance" in subsection 248(1) of the Act to be made after the loss. Therefore, it is our view that if it can be shown that the payment is in respect of the loss, it is irrelevant that the loss (i.e. of the employment, including the end of all significant employment benefits such as salary continuance and pension benefit accruals) will occur in future. However, for a payment in advance of the loss to be considered a "retiring allowance" there must be evidence that the loss is not speculative or contingent and that the severing of the employment relationship including the cessation of all employment benefits will occur.”

In the present case, as discussed below, we would have no objection to a finding that the employee was to be terminated and that a loss of employment did occur. Accordingly we would agree that a payment of a retiring allowance for the loss of employment could be made at any time after the loss of employment was determined.

The second question to be considered is: do the continuing payments represent a payment of a retiring allowance or income from employment?

The Department has maintained the position that salary continuance payments are not retiring allowances. However, we have accepted that periodic payments made in lieu of salary continuance (see our file 923154) paid as damages for wrongful dismissal may be treated as retiring allowances. In the latter case we have also stated that damages may include amounts paid pursuant to a court order or a settlement between the parties.

In your situation the employee was terminated without notice. Hence a wrongful dismissal appears to have occurred. It is then stated that severance payments were offered in the form of salary continuance in lieu of common law damages for wrongful dismissal XXXXXXXXXX There is no evidence in the documentation that the payments are “pay in lieu of notice”.

In our opinion both the employer and XXXXXXXXXX have not used the term “salary continuance” as that term is generally applied for tax purposes. It appears to us that the payments are in fact negotiated payments of severance, payable in periodic payments over a fixed period.

Accordingly we would have no objection to them being treated as payments of retiring allowances pursuant to the provisions of paragraph (b) of the definition of “retiring allowance” in subsection 248(1) of the Income Tax Act (the “Act”). The difficulty in this case (and in similar cases), from a tax administration perspective, is that the payments may be considered as a “retiring allowance” for certain purposes of the Act but also as salary for other purposes of the Act ( i.e. salary withholdings and pension plan administration) XXXXXXXXXX. This inconsistency is not defensible and should be avoided whenever possible, firstly by educating our clients.

As a result of the concerns raised in this case we are currently looking to clarifying our views on salary continuation payments and retiring allowances, possibly through the release of an Income Tax Technical News article or an amendment to IT 337R3. We anticipate the release of directions that will provide that when a loss of employment has occurred, the use of the term “salary continuation payments” should be avoided where the payments are actually installments of severance payments. However, where severance payments are made in the form of continuing payments, the reporting of such amounts must be consistent for all statutes administered by Revenue Canada. Periodic payments of severance may then be treated as retiring allowance payments but they may not also be reported as employment income for the purpose of calculating XXXXXXXXXX years of service in a registered pension plan.

Paul Lynch
for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch