Canada: How Should Employers Deal With Pensions In A Severance Package?

Last Updated: August 12 2016
Article by Mary M. Picard

HR professionals often ask us how to deal with pension issues when they structure severance packages for non-union employees. Should employees continue to earn pension benefits after termination of employment? If so, for how long?

Here are some legal principles that will help the puzzled professional approach these questions. See the article by Taylor Buckley here [] that describes in a general way the treatment of a variety of employee benefits on termination of employment. This article will focus on the treatment of pensions.

Is there anything in writing? Is there a written employment contract, collective agreement, plant closure agreement or other document that clearly describes what will happen to pension benefits when the employee is dismissed? If the answer is yes, follow the written document. If the answer is no, read on.

The statutory notice period? Easy. In Ontario, employment standards legislation requires pension accruals to continue during the period of statutory notice. For both defined benefit and defined contribution pension plans, the employee should be given credit and contributions in the pension plan for that period. The challenge is what pension treatment should apply at the end of the statutory notice period. Read on.

What about pension benefits during the period of common law notice? A period of common law notice could extend for several months after a statutory notice period ends. Courts have said that long-service, highly-paid employees who are terminated without legal "just cause", could be entitled to a period of common law notice as long as two years. The general rule is that an employee who is dismissed without cause is entitled to the value of the pension benefit that he/she would have received if he/she had worked for the entire period of common law notice. The general rule won't apply if there's something in writing that provides for some different treatment – an employment contract, collective agreement, binding policy, etc.

If the general rule applies, the dismissed employee's entitlement is to the value of the pension that he or she would have earned in the pension plan during the period of common-law notice. When dealing with a defined benefit pension plan, the amount of contributions is not the same as the value. Advice of an actuary may be required to determine the value of a defined benefit pension accrual during a common law notice period. It could be easier and less expensive for an employer to set up severance arrangements so that pension accruals continue in the pension plan, rather than pay a separate cash amount equal to the value of the pension accrual.

Are employers required by law to continue pension benefits through the entire period of common law notice? If the general rule applies, that doesn't mean that the dismissed employee must receive the value of pension benefits for the entire period of common law notice. Employees can agree to some other deal. A dismissed employee could sign a release and accept a severance arrangement that doesn't include the accrual of pension benefits through the period of common law notice (as long as all statutory obligations are met). That is legally acceptable, as long as the treatment of pension benefits is clear in the documentation, and the employer has acted appropriately in disclosing the pension issues to the employee.

How should an employer disclose pension issues when negotiating a severance deal? Carefully. Pension legislation requires an administrator of a pension plan to act as a fiduciary when explaining pension entitlements under the plan. That includes a situation where a dismissed employee is considering pension issues in the context of a severance package. Severance letters often say something like, "you will receive pension information under separate cover". If the employer is seeking a release at that point, the release may be challenged in future if the dismissed employee later says that he or she didn't understand how his pension was being handled under the severance arrangement. The better approach is to deal with the treatment of pensions up front, in the initial severance letter that sets out all payment terms.

Exactly what are the options in dealing with pensions during a severance period? The easy point is that in Ontario accruals continue, without exception, during the statutory notice period. The more difficult point is what should happen with pensions after the end of the statutory notice period. There are two basic choices. Pension accruals could cease at the end of the statutory notice period, in which case the dismissed employee simply receives his or her pension termination option statement. Alternatively, pension accruals could continue for the period of time when the dismissed employee is still considered to be an employee for tax purposes. The key here is that the status of being employed for pension accrual purposes can continue even if the individual does not report to work. A severance deal can be structured so that for tax purposes, the individual's employment has not terminated at the end of the statutory notice period. Such arrangements are commonly referred to as "salary continuance arrangements". The individual's salary and some benefits continue during the salary continuance period, without interruption, even though the employee no longer comes to work. The employer doesn't provide a Record of Employment until the end of the salary continuance period. Documentation must be clear in confirming with the dismissed employee exactly what is happening with his/her benefits. And the employer should be aware of what is permitted regarding benefit accruals/continuation in the relevant benefit plan text.

It is often simpler, and less expensive, to provide for continuing pension plan accrual within the pension plan during a period of salary continuance, rather than wrestle with the issue of a cash payment to compensate the dismissed employee for loss of pension accruals during a severance period.

The bottom line for employers with pension plans is that a proper structuring of a severance package requires thought beyond the question of "how many months is this employee entitled to?" There could be an expensive pension issue that employers should address at the outset. Should the pension accruals continue throughout the salary continuance period? Would it be easier and less expensive to simply provide a cash payment in lieu of pension accruals? Has the dismissed employee been given clear and complete information about what his/her pension rights are in connection with his/her severance deal? Employers should have solid answers to these pension questions before terminating employees.

For more information, visit our Employment and Labour blog at

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