Making pay cuts for business reasons

Question: If an employer needs to reduce an employee's salary for business reasons, what can it do to avoid or reduce liability?

Answer: This is an issue we are dealing with quite often these days.

As set out in the answer to the first question above, a constructive dismissal occurs when there is a unilateral and substantial change to a fundamental aspect of the employment relationship or contract.

The Supreme Court of Canada in Potter v. New Brunswick (Legal Aid Services Commission) stated that constructive dismissal may arise where the conduct of the employer shows an intention to no longer be bound by the employment contract and the employee treats that conduct as a repudiation of the contract.

An employee can establish constructive dismissal in one of two ways:

• They may show unilateral breach by the employer, which substantially alters an essential term of the contract by establishing: i) on an objective basis, whether there has been a unilateral breach by the employer and ii) if so, at the time of the breach, whether a reasonable person in the same circumstances as the employee would have felt that the essential terms of the employment contract had been substantially changed; or
• The employee may establish a course of conduct that, when viewed in the circumstances, would lead a reasonable person in the same situation as the employee to conclude that the employer no longer intended to be bound by the terms of the contract.

Compensation is a fundamental element of the relationship. The question to address will be whether the change is enough to be substantial. Contrary to popular belief, there are no absolute rules in this regard. It is fair to say that a nominal change, such as a five-per-cent decrease, is unlikely to rise to that level. However, every case must be assessed based on its own particular circumstances. A 10-per-cent decrease may impact someone earning $40,000 per year far more than someone earning $4 million per year, even though the absolute amounts are smaller.

The safest way to avoid or reduce liability for changes to the employment relationship is to build discretion to make changes into the contract. The next best alternative is to obtain the employee’s agreement to the change, rather than imposing it. Another strategic approach, if pay cuts must be imposed, is to ensure that they are relatively nominal.

We are working with many clients in the current pandemic to implement reductions in hours and/or wages. Where possible, the cuts are kept to a minimum. In all cases, we recommend that the representatives of the organization speak with the impacted employees, explain the need for the pay cut and get their buy-in. Then they can obtain a signed agreement documenting the employee’s consent. Of course, it certainly helps when they can say that the management and ownership are also making a sacrifice.

Unilaterally imposing substantial pay cuts is the riskiest approach and can easily result in a claim.

For more information, see:

• Potter v. New Brunswick (Legal Aid Services Commission), 2015 SCC 10 (S.C.C.).

Stuart Rudner is the founder of Rudner Law, an employment law firm in Markham, Ont. He can be reached at [email protected] or (416) 864-8500.