5 August 1999 Internal T.I. 9915357 - VACATION BANKING

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: The tax consequences of an arrangement which allows an employee to bank vacation leave until retirement.

Position: It is a question of fact. However, the arrangement may be considered a "salary deferral arrangement."

Reasons: An arrangement which allows an employee to defer vacation leave until retirement, may be considered a salary deferral arrangement if the deferment of tax is one of the main purposes of the arrangement. One of the main purposes may be considered tax deferral, since, under the arrangement, employees are allowed to bank vacation leave and thereby defer income tax on the cash value of the banked vacation leave.

							August 5, 1999

	xxxxxxxxxx	Tax Services Office		HEADQUARThRS
	Large File Case				J. Gibbons
(613) 957-8953

      Attention:  XXXXXXXXXX
							7-991535

XXXXXXXXXX (the taxpayer)

This is in response to your memorandum of June 7, 1999, in which you requested our opinion whether the taxpayer has a deductible expense, in respect of the accrued vacation earned by its employees.

As we understand them, the facts are as follows:

• The taxpayer's employees are entitled to vacation leave of 4, 5, or 6 weeks.
• The first two weeks of leave must be taken during the vacation year and must not be taken in periods of less than one week, in compliance with Ontario Employment Standards.
• Under exceptional circumstances, and with the approval of the Division Head, one week of entitlement may be carried into the next vacation year, but must be taken by August 31. Unused vacation leave on August 31 of each year may be "banked," if eligible, or will be forfeited.
• Vacations are not cumulative and cannot, under any circumstances, be taken until earned.
• The taxpayer has a "banked vacation plan" under which employees can bank their unused vacation for the year.
• Under the banked vacation plan, the employee signs a form in which the employee agrees that the vacation entitlement (time or cash) will not be available until he or she retires or leaves the taxpayer for other reasons.
• There are maximums as to how much an employee may bank, which are as follows:

	Vacation Entitlement				Maximum Banking Entitlement
	    4 weeks					1 week
	    5 weeks					2 weeks
	    6 weeks					3 weeks

Your position

You had proposed to disallow the accrued vacation on the basis that:

1. Since the liability is not enforceable until retirement or notice to terminate employment is given, it was contingent and restricted by virtue of paragraph 18(1)(e) of the Income Tax Act (the Act),

2. The liability is subject to subsection 78(4) of the Act and thus is deemed not to be an expense in the year incurred but, instead, is deemed to be incurred in the year it is paid; or

3. The accrued vacation plan is a salary deferral plan since, but for the banked vacation plan, the vacation would be taxed.

Our position

Re #1: Paragraph 18(1)(e):

The issue of whether accrued vacation is a contingent liability and subject to the restriction in paragraph 18(1)(e) of the Act has been addressed by us previously . For example, we refer you to LIB documents #' s 9506157 and 9220847. Our position is also set out in paragraph 10 of IT-215R, "Reserves, Contingent Accounts and Sinking Funds." Our position is that, if the taxpayer has a legal obligation before the end of the year to pay the vacation earned by its employees and the liability is quantifiable, a deduction should be permitted in respect of accrued vacation pay for a taxation year.

Re #2: Subsection 78(4):

Subsection 78(4) applies to an amount in respect of a taxpayer's expense that is a superannuation or pension benefit, a retiring allowance, salary, wages or other remuneration (other than reasonable vacation or holiday pay or a deferred amount under a salary deferral arrangement, in respect of an office or employment), which is unpaid after 180 days after the taxation year in which the expense was incurred. In our view, vacation entitlements ranging from 4 weeks to6 weeks per year are not unreasonable vacation or holiday pay and thus would not be subject to subsection 78(4).

Re #3: Salary deferral arrangement:

In order to determine whether any particular arrangement is a "salary deferral arrangement” we must consider the definition found in subsection 248(1) of the Act. Briefly stated, a salary deferral arrangement is:

• a plan or arrangement (whether funded or not),
• between an employer and,
• an employee who has a right in a taxation year to receive an amount after the year under the arrangement,
• and one of the main purposes for the creation or existence of the right is to postpone tax payable under the Act by the employee in respect of an amount that is, or is on account or in lieu of, salary or wages for services rendered in the year or a preceding year.

Based on this definition, the taxpayer's arrangement, which allows an employee to defer vacation leave until retirement, may be considered a salary deferral arrangement if the deferment of tax is one of the main purposes of the arrangement. One of the main purposes may be considered tax deferral, since, under the arrangement, employees are allowed to bank vacation leave and thereby defer income tax on the cash value of the banked vacation leave. Other companies might force their employees to take unused vacation leave as cash, and these amounts would be included on the employees' T4 slips. Because an arrangement may have more than one purpose, the fact that one of the purposes is not tax-motivated does not prevent the arrangement from being considered a salary deferral arrangement. Since it is a question of fact whether the deferral of tax is one of the main purposes of the taxpayer's banked vacation plan, you will have to make this determination based on your review of the particular facts.

For your information a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Legislation Access Database (LAD) on the Department's mainframe computer. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure, including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, they can be provided with the LAD version, or they may request a copy severed using the Privacy Act criteria, which does not remove client identity. Requests for this latter version should be made by you to Jackie Page at (613) 994-2898. The severed copy will be sent to you for delivery to the client.

John Oulton
Manager
Business, Property & Employment
Income Section
Income Tax Rulings and
Interpretations Directorate