Severance Pay – The Basics

What does severance pay mean?
Who is entitled to severance pay?
How much severance pay I am entitled to?
How is severance pay calculated in Ontario?
When do I get severance pay?
How is severance pay paid?
How does severance pay affect employment insurance (EI)?
How is severance pay taxed?
How can Ertl Lawyers Help?

What does severance pay mean?

Severance pay is an amount of compensation an employee receives when their employment is terminated.

Severance pay is usually part of a “severance package” that may include other things such as continuation of benefits, continued participation in pension or RRSP plans, career counseling, a letter of reference, etc.

An employer can provide “working notice” instead of severance pay.  For example, if you are entitled to 12 weeks of severance pay, the employer could simply make you work another 12 weeks.

However, the discussion below is based on the more common scenario where an employee is immediately let go, and given severance pay instead of notice.

Who is entitled to severance pay?

Most employees terminated without cause are entitled to some severance pay – through legislation, their contract, or the common law (we will discuss this below).

On the other hand, if the employee was fired for serious misconduct (such as theft), the employer would likely take the position that it had just cause to fire the employee, and pay no severance pay at all.

For more information on terminations for just cause, visit our page “Terminated With Cause”.

How much severance pay am I entitled to?

The amount of severance pay you are entitled to depends on three things: 1. Legislation, 2. Your Contract, and 3. Common Law

1. Legislation

The Employment Standards Act, 2000 (for provincially regulated employees) and the Canada Labour Code (for federally regulated employees) requires employers to provide certain minimum amounts of notice or compensation based solely on an employee’s length of service.

Under the Employment Standards Act, 2000, an employee with greater than three months of service is entitled notice or pay in lieu according to the following formula:

Plus, if the employee worked 5 years or more for employer that has a payroll in Ontario of $2.5 million or higher, they get an extra lump sum payment equivalent to 1 week for each year of service (to a maximum of 26 weeks).

So, the maximum an employee can automatically get under the Employment Standards Act, 2000 is a total of 34 weeks of pay. Again, this is all calculated based on years of service alone. It does not take any other factors related to you or your employment into consideration.

2. Your Contract

If you have an employment contract, it might have a termination provision that spells out what you are entitled to.

The termination provision, however, cannot provide you less than what the Employment Standards Act, 2000 provides for.

3. The Common Law 

The common law applies when you don’t have a written contract, when your written contract doesn’t have a termination provision, or the termination provision in your contract is void or unenforceable for some reason.

Under the common law, terminated employees are entitled to “reasonable notice” of their dismissal (or pay in lieu of that notice).

Reasonable notice is typically measured in “months” and roughly equates to how long it should take you to find a comparable job, having regard to your age, length of service, the type of job you had, and the availability of similar jobs in the marketplace.

Other factors such as your credentials, location, industry, your health, etc. can influence how much notice you are entitled to.

How is severance pay in Ontario calculated?

Again, if you are owed something under the Employment Standards Act, 2000, that formula is set in stone.

And, if your contract of employment is valid and enforceable, you get what your contract says.

If you are owed common law reasonable notice or pay in lieu, then a number of factors will come into play.

The top 4 are:

• age
• length of service
• character of position
• availability of similar jobs

Other factors that can increase the amount of severance you are entitled to include:

• if you are a specialist
• if you were induced (i.e. lured) to leave secure employment
• the manner of your dismissal (i.e. was it particularly offensive)
• bad economic climate
• limited formal education and skills
• poor health
• importance of your role to your employer’s operations
• lack of fluency in English
• length of service in same field
• recent return from parental or sick leave

Some other interesting facts about severance pay:

• The maximum amount of reasonable notice is generally 24 months. It is typically reserved for very long-standing, older employees. There have been some cases of 26 and 28 months but they are rare.

• The minimum amount of reasonable notice? The answer to this is less clear. But it seems that 2-3 months is the rough lower limit.

• If you were “induced” to leave secure employment, and then fired from your job, you could get a much bigger notice period than in normal circumstances.

• Short service employees (i.e. 0 – 3 years of employment) seem to get proportionately lengthier notice periods. For example, someone in the 6 – 10 year range might get an average of 1 month per year of service; and a short service employee might get 1.7 months per year of service or higher!

Try our severance pay calculator to estimate your common law severance pay today!

When do I get severance pay?

Statutory payments under the Employment Standards Act, 2000 must be paid within 7 days of your termination or the next available payroll date, whichever is later.

If you are entitled to common law severance, then it is paid when you “settle” or “resolve” your matter.

Sometimes, the negotiations happen so quickly that the whole thing is wrapped up in a matter of weeks. Sometimes you may have to commence a legal claim and settle it at mediation.

How is severance pay paid out?

Payments made under the Employment Standards Act, 2000 should be paid out all at once – as a lump sum.

If you are entitled to common law severance pay, then you could be paid either in lump sum form or as salary continuation (or even a combination of the two).

Lump Sum – Advantages to Employee

• Once the employee is paid, the employee doesn’t need to worry about the financial circumstances of the employer.
• May have certain tax advantages (i.e. possibility of splitting the payment over different calendar years and directing money into an RRSP)
• If the employee starts at new job, normally the employee does not need to pay back any of the lump sum payment if they subsequently find a job.

Lump Sum – Disadvantages to Employee

• Lump sum offers are typically less than salary continuation offers to account for the possibility of the employee finding a job during the salary continuation notice period.
• Normally, benefits are stopped earlier than with salary continuation.

Salary Continuation – Advantages to Employee

• A steady stream of income.
• Typically, benefits are continued.
• Usually E.I. and C.P.P. contributions continue to accrue.

Salary Continuation – Disadvantages to Employee

• Employee is dependent on the financial circumstances of the employer.
• Unwanted continued relationship with former employer.

How is severance pay taxed?

Your payments under the Employment Standards Act, 2000 are taxed in the normal way (just like a normal paycheque).

If your employer pays you additional severance pay as a lump sum, it is called a “retiring allowance”. The employer will deduct a fixed percentage and remit it to the government. No other deductions are made. When you eventually prepare your tax filings, you might either have to pay more or less than what was deducted.

Retiring allowances are taxed as follows:

• 10% (5% for Quebec) on amounts up to and including $5,000
• 20% (10% for Quebec) on amounts over $5,000 up to and including $15,000
• 30% (15% for Quebec) on amounts over $15,000

How does severance pay affect employment insurance (EI)? Is there a repayment obligation?

If you receive statutory severance pay or common law severance pay (or both), you will have to inform Service Canada. It will also be reported on your Record of Employment.

Receiving severance pay does not affect when you can apply for EI. You can apply for it as soon as you are terminated and a Record of Employment is issued. Indeed, if you wait to apply, it will slow things down tremendously.

The amount of severance pay will affect when you can receive EI. For example, an employee who receives 4 months lump sum of severance pay can apply for EI as soon as they are terminated, but they likely won’t see any EI money until after an equivalent period of time (i.e. 4 months).

A common scenario is the following:

Sally gets terminated. The employer provides her 2 weeks’ pay pursuant to the Employment Standards Act, 2000. She is owed more under the common law. The parties eventually reach a settlement. However, Sally has already been receiving EI by the time of the settlement. The result? Sally will have to repay the EI she has received up to the date of the settlement.

However, by repaying your EI, you “reset” your entitlement. In other words, if Sally finds her self unemployed after her severance settlement runs out, she can apply for EI benefits again.

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