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Easing the tax burden if you're terminated.

This is the first article of a series of tax articles that will appear in the Canadian Chemical News over the course of this year. To appeal to the general readership, the author has selected to address a broad range of topics in respect of the federal Income Tax Act, a statute which touches virtually all Canadians. However, the remains open to receive suggestions from he readers for topics of future articles. The articles can provide general information only and the reader should consult his or her own advisors for tax advice specific to the reader's circumtances.

In these recessionary times, unfortunately, the possibility of being laid-off is omni-present. Recently, a good friend of mine was laid-off by an employer for whom he had worked for five years because of a "reorganization". At that time, he had access to tax advice and took the necessary steps to structure his so-called "termination" payments in a tax effective manner. Depending on the size of the employer, in-house advice may be made available to the employee. The comments in this article apply to termination payments, whether it is a case of a lay-off or a retirement, as it is commonly known.

When an employer lays off an employee, a portion of the payments received by the employee may be characterized as a retiring allowance and may be eligible for a limited rollover into his or her registered pension fund or plan (RPP) or registered retirement savings plan (RRSP). Rollover means there are no immediate tax consequences and limited means that the entire amount may not be eligible for the rollover. Although tax is merely deferred when money is transferred to an RPP or RRSP, amounts accumulate taxfree and over long periods, the compounding effect can be rather significant.

Generally, any amounts that are considered as salary or remuneration are included in the employee's income in the year they are actually received, for example, an amount equivalent to accumulated vacation leave not taken. Amounts will be considered remuneration if there is a continuing relationship of employer-employee. For example, this will probably be the case if accruing pension credits, health and dental plan coverage or use of a company car (or other non-salary consideration that other employees receive) are still being received by the individual.

However, if an amount can be considered as a retiring allowance it will not be caught by this general rule as the more specific rules applying to retiring allowances take precedence. Retiring allowance is defined as a amount received upon or after retirement of a taxpayer from employment in recognition of his or her long service, or in respect of loss of the taxpayer's employment, including a payment of damages or pursuant to an order or judgment of a tribunal.

Although the case law indicates that retirement is a rather limited concept, Revenue Canada accepts the cessation of employment for any reason as being retirement or loss of employment. Early retirement incentive plans in which the employee ultimately is the party deciding to stop work may validly give rise to payments that qualify as retiring allowances. However, the transfer between positions with the same employer or positions within affiliates can not.

Retiring allowances, which include amounts in respect of unused sick leave credits, are also included in income in the year they, are received. However, such allowances may give rise to a limited rollover to the employee's RPP or RRSP under paragraph 60(j.1) of the Income Tax Act. This provision permits the employee to deduct one of the following amounts, whichever is the lowest:

* the portion of the retiring allowance included in income and designated in the employee's annual tax return;

* $2,000 x number of years (a fraction of a year counts as one year) of employment, plus $1,500 x number of years of employment before 1989 less number of equivalent years (may be a fraction of a year) before 1989 in respect of which the employer contributed to a pension plan or a deferred profit sharing plan that had vested in the employee at the time of payment of the retiring allowance;

* the employee's actual contributions to an RPP or RRSP in that year of within 60 days after the end of that year that are not deducted under the normal rules (these contributions can be over and above the limit of contributions normally, allowed but do not include contributions deducted under paragraph 60(j.1) in computing income for a preceding taxation year).

When an employer pays salary, wages, other remuneration or a retiring allowance, the employer must deduct withholding tax and remit such amounts to the federal government. In the case of a retiring allowance, withholding tax my be avoided if the employee elects to transfer amounts to the extent allowed by paragraph 60(j.1) directly to his or her RPP or RRSP by completing, in conjunction with his or her employer, Form TD2.

Although this waiver of withholding tax does not have an effect on the individual's eventual tax liability for the year, it allows the employee to avoid paying the withholding amount since no tax liability for the year, it allows be payable on the transferred amounts when his or her tax return for that year is filed. If the waiver is not completed, withholding tax will be deducted on this amount and refunded with the individual files his return for the year. In essence he or she would be providing the government with an interest-free loan.

Finally the employee should note that he or she can deduct legal expenses incurred to collect or establish a right to salary or wages or a retiring allowance. The deduction in respect of the retiring allowance is available to the extent of the amount of the allowance not transferred on any rollover basis described above. Any disallowed portion may be carried forward for seven years to offset further related income.

About the author

Douglas Yip is a lawyer specializing in taxes. He works for the Richter, Usher & Vineberg chartered accounting firm in Montreal. Douglas is also a chemical engineer who served two terms on the board of the CSChE.
COPYRIGHT 1992 Chemical Institute of Canada
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1992 Gale, Cengage Learning. All rights reserved.

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Title Annotation:Talking Tax
Author:Yip, Douglas
Publication:Canadian Chemical News
Date:Apr 1, 1992
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