Pension benefits and severance pay

Recent IBM decision clarifies deductions around wrongful dismissals
By Ian Breneman
|Canadian HR Reporter|Last Updated: 05/20/2014

At the end of last year, the Supreme Court of Canada held that defined pension benefits could not be deducted from a wrongful dismissal award in IBM Canada Limited v. Richard Waterman.

Richard Waterman had been employed with IBM for 42 years and was a member of its defined benefit (DB) pension plan, which was fully paid by IBM. He reached age 65, at which point he could have retired with a full pension. Under his employment contract, he was not entitled to receive both pension benefits and salary at the same time, so he could either keep working or retire and collect the pension.

Waterman decided to continue working but, in 2009, IBM terminated his employment and began paying him retirement benefits of $2,124 per month.

Waterman sued for wrongful dismissal. The trial court held the reasonable notice period was 20 months. IBM sought to reduce the amount of damages for wrongful dismissal by the amount of the monthly pension benefit, but the court disagreed. The British Columbia Court of Appeal also refused to deduct the pension benefit, so IBM appealed to the Supreme Court.

IBM’s position

IBM argued, and two dissenting judges of the Supreme Court agreed, that the general approach to damages for breach of contract should be followed. That approach seeks to place the wronged party in the same position it would have been had the contract been fulfilled. In a simple example where one party fails to deliver goods purchased for resale or manufacturing, the wronged party could be awarded damages for the cost of more expensive replacement goods, extra shipping costs and lost profits, because these are the monetary losses that were actually incurred.

IBM reasoned Waterman was not entitled to receive both his pension benefits and salary at age 65. During the notice period, he would only have been paid his salary. Therefore, his actual loss was the severance awarded by the trial court minus the pension benefits.

Which benefits are deductible?

The Supreme Court held that the general approach to damages is not a full answer in the case of determining which benefits are deductible from severance pay, and it noted two other exceptions. First, any charitable gift a plaintiff receives is not deductible from a damage award. Second, benefits from a plaintiff’s private insurance are not generally deductible from damages the defendant has to pay.

In this example, the defendant would still have to pay for lost profits if the plaintiff had coverage under its own insurance policy for the same loss. The Supreme Court then went on to analyze when a benefit can be likened to the private insurance exception.

The first factor is the nature and purpose of the benefit. This examination focuses on whether the benefit the plaintiff receives was intended to indemnify her for the same type of loss caused by the defendant’s breach of contract. In the employee termination setting, the inquiry is whether the benefit is intended to replace the wage or salary the employee is no longer earning as a result of a wrongful dismissal.

The second factor is whether or not the plaintiff contributed to obtaining the benefit, such as by way of insurance premiums or other contribution.

The Supreme Court reviewed a number of its earlier decisions and summarized the trends based on these two factors. Where the benefit is not intended as an indemnity for the same type of loss caused by the defendant’s breach of contract, and where the plaintiff contributed to obtaining the benefit, the benefit received is not deductible.

Even if the benefit is intended as an indemnity for the type of loss caused by the defendant, but the plaintiff contributed to obtaining the benefit, the benefit received is not deductible. Such benefits are only deductible if the benefit is intended to be an indemnity for the type of loss caused by the breach of contract and the plaintiff does not contribute to obtaining the benefit.

The Supreme Court also left room for broader policy considerations based on what behaviour may be encouraged or discouraged as a result of deducting the benefit from the damages award. However, examining policy considerations should only be necessary if those policy considerations are “directly related to the particular benefit in issue and when there is some reasonable basis in fact or experience to suppose that deducting or not deducting will actually serve the policy objective.”

In the IBM case, the Supreme Court held that a pension benefit is not intended to replace lost wages. Instead, it is intended to be a retirement plan providing pension payments to employees after they retire. Although the plan was non-contributory, with IBM alone paying into it, Waterman was said to have contributed to obtaining the benefit through his years of service with his employer. As a result, his pension benefit could not be deducted.

Implications for employers

Termination is often a sensitive and sometimes a complicated issue, particularly when it involves employees at or near retirement age. The Waterman decision makes clear that payments from a DB pension plan cannot be used to reduce a terminated employee’s severance pay.

The same rationale will apply to defined contribution (DC) plan payments. As noted by the dissenting judges, deducting DC plans would put the employee in an even worse situation due to the finite benefits an employee could receive under such a plan. Employers will also be precluded from deducting income replacement benefits if the employee contributed to obtaining such benefits.

In the recent case of King v. 1416088 Ontario Ltd., the court followed the reasoning in Waterman. In the King case, a terminated employee sought a lump sum payment of the minimum amount he would have received under an agreement with his employer for a DB pension, in addition to severance pay.

The court rejected that request as it would have been contrary to the terms of the pension agreement. This case highlights that the text of the pension plan or terms of the benefit still play a key role in how that benefit will be paid in the context of a severance.

Ian J. Breneman is an associate in Stewart McKelvey’s advocacy department and a member of the labour and employment group in Halifax. He can be reached at ibreneman@stewartmckelvey.com.

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