9 December 2010 External T.I. 2010-0379831E5 - Employee release and settlement agreement

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: What is the correct tax treatment of a payment made to a terminated employee to obtain a general release from future liability?

Position: The payment would be a retiring allowance.

Reasons: The payment satisfies the two-prong test established by the courts for the purpose of determining whether a payment is a retiring allowance.

XXXXXXXXXX
									2010-037983
									Rita Ferguson
									519-645-5261

December 9, 2010

Dear XXXXXXXXXX :

Re: Technical Interpretation Request - Employee Release and Settlement Agreement

This is in response to your letter of September 8, 2010 inquiring about the tax treatment of the payment (the "Settlement") made to an employee in consideration for signing a general release of liability agreement (the "Agreement") when the employee has been terminated. The Settlement is offered as an incentive to sign the Agreement after any other amounts owing to the employee (such as termination pay, severance pay, vacation pay, salary, etc.) have been paid.

Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of a request for an advance income tax ruling submitted in the manner set out in Information Circular 70-6R5, "Advanced Income Tax Rulings", dated May 17, 2002. This Information Circular and other Canada Revenue Agency ("CRA") publications can be accessed on the internet at http://www.cra-arc.gc.ca. Where the particular transactions are complete, the inquiry should be addressed to the relevant tax services office, a list of which is available on the "Contact Us" page of the CRA website. Although we cannot comment on your specific situation, we are prepared to provide the following comments in respect of the issues that you raised. Please note, however, that these comments are of a general nature only and are not binding on the CRA.

The CRA's general views regarding retiring allowances are set out in Interpretation Bulletin IT-337R4 "Retiring Allowances". Paragraph 5 states:

A retiring allowance includes an amount received in respect of a loss of office or employment. In this context, the words "in respect of" have been held by the Courts to imply a connection between the loss of employment and the subsequent receipt, where the primary purpose of the receipt was compensation for the loss of employment. (See also ¶ 11). Two questions set out by the Courts to determine whether a connection exists for purposes of a retiring allowance are as follows:

1 - But for the loss of employment would the amount have been received? and,

2 - Was the purpose of the payment to compensate a loss of employment?

Only if the answer to the first question is "no" and the answer to the second question is "yes", will the amount received be considered a retiring allowance.

The determination of whether a particular amount received by an employee upon or after termination of employment constitutes employment income or a retiring allowance can only be made after a thorough review of all of the details relevant to the particular situation, including the employment contract and any other agreements giving rise to the payment. Since a written settlement agreement is often couched in standard terms, it would also be necessary to review any statements of claims, relevant correspondence between the parties, etc., to ascertain the true nature of payments made under a settlement agreement. In our view, based on the limited information contained in the Agreement, the Settlement to be received by a terminated employee will likely be a retiring allowance.

Information about reporting and withholding requirements in respect of retiring allowances may be found on the CRA website at: http://www.cra-arc.gc.ca/tx/bsnss/tpcs/pyrll/clcltng/spcl/lmpsm/wthhldng-eng.html), in Guide RC4157, "Deducting Income Tax on Pension and Other Income" and in Guide T4001, "Payroll Deductions and Remittances".

We trust that these comments have been of assistance.

Yours truly,

Renée Shields
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch