Of the many different types of payments that employers make to employees, one of the most challenging to administer is a retiring allowance.
Knowing which types of payments qualify as retiring allowances, which source deductions apply, whether any of the payments can be transferred to an employee’s pension or registered retirement savings plan (RRSP) and how to report the payments at year-end are critical issues for payroll professionals who want to help their employer avoid penalties for non-compliance.
How well do you know retiring allowance requirements? To find out, test yourself with these true or false statements.
The term “retiring allowance” refers only to amounts employers pay to employees when they retire from work. True or False?
False. A retiring allowance can be a sum of money paid on or after an employee retires to recognize the employee’s long service or it can be an amount paid as compensation to an employee for losing her office or employment through retirement or termination of employment. For example, severance pay qualifies as a retiring allowance.
Employers may pay retiring allowances in a single payment or in instalments. True or False?
True. A retiring allowance is usually a single payment, however, employers may pay it in instalments and the payment will still qualify as a retiring allowance.
Retiring allowances are subject to income tax deductions. True or False?
True. Employers must deduct income tax from retiring allowances paid directly to recipients. (Do not deduct income tax from the amount of a retiring allowance that an employer directly transfers to an individual’s registered pension plan (RPP) or RRSP (up to the amount of his available RRSP deduction limit).
To calculate income tax deductions, use the federal Income Tax Act’s lump-sum tax rates. The rates are 10 per cent (five per cent for Quebec) on amounts of no more than $5,000, 20 per cent (10 per cent for Quebec) for amounts that are more than $5,000, but no more than $15,000, and 30 per cent (15 per cent for Quebec) on amounts that are more than $15,000.
Quebec employees are also subject to Quebec provincial lump-sum tax rates. They are 16 per cent on amounts of $5,000 or less and 20 per cent on amounts higher than $5,000.
Employers who pay retiring allowances to individuals who are not Canadian residents must deduct 25 per cent of the retiring allowance for income tax. The rate may vary if Canada has signed a tax treaty with the country in which the individual is a resident.
Amounts paid to an employee when she retires will not qualify as a retiring allowance if the employer allows the employee to continue taking part in its benefits plan. True or False?
True and false, depending on the benefits plan and whether it allows employees to continue to accrue pension credits after retirement.
In Interpretation Bulletin IT-337R4, Retiring Allowances, the Canada Revenue Agency (CRA) states that, “Continued participation in a former employer’s health plan (for example, providing medical, dental and long term disability coverage) for a restricted period of time would not, in itself, indicate that employment has not terminated, particularly if the employer’s plan specifically permits former employees to be covered under the plan.”
However, the CRA adds that if the individual can continue to accrue pension benefits, “the accrual indicates that there is an existing employment relationship, since such benefits only accrue to employees.”
If there is an employment relationship, payments made to the individual do not qualify as retiring allowances.
Payments will not qualify as a retiring allowance if an employer pays them before an employee’s employment ends. True or False?
True and false. For amounts related to retirement (i.e., in recognition of long service) to qualify as a retiring allowance, the employer must make the payments on or after an employee retires, not before.
Amounts related to the loss of an office or employment may qualify as a retiring allowance even if the employer pays them before employment ends if there is “evidence that the loss is not speculative or contingent, and that the severing of the employment relationship, including the cessation of all employment benefits, will occur on a specific date,” the CRA states in IT-337R4.
Wages in lieu of notice payments required under employment standards laws qualify as a retiring allowance. True or False?
False for federal source deduction and year-end reporting requirements.
The CRA considers wages in lieu of notice payments to be regular employment income, subject to CPP, EI and income tax deductions and reported in box 14 on a T4.
True for Quebec provincial source deductions. Employees who receive pay in lieu of notice under Quebec’s Act respecting labour standards are deemed to be in receipt of a “compensatory indemnity.”
Under Quebec’s Taxation Act, this type of payment is a retiring allowance and not employment wages.
Employers should not deduct income tax from a retiring allowance paid directly to a former employee if his or her total annual earnings are less than the total amount claimed on a form TD1, Personal Tax Credits Return. True or False?
False. Even if an individual’s total earnings during a calendar year, including the retiring allowance, are less than the total amount he claimed on a TD1, employers must deduct income tax from a retiring allowance paid directly to a former employee.
The Income Tax Act limits the amount of a retiring allowance that an employee may transfer without tax deductions to an RPP or an RRSP to $2,000 for each year before 2000 that the employee worked for the employer. True or False?
False. To calculate how much may be transferred tax-free, the CRA uses the following formula:
a)
$2,000 for each calendar year (or portion) before 1996 during which the employee was employed by the employer
plus
b)
$1,500 for each calendar year (or portion) before 1989 that the employee did not belong to a company pension plan, pension fund or deferred profit-sharing plan or did belong, but the employer’s portion was not vested in the employee when the employer paid the retiring allowance. The $1,500 amount can be prorated according to the percentage of vesting.
If an employee requests it, employers may transfer some or all of the retiring allowance to an RPP or an RRSP without tax deductions. True or False?
True for employees with years of service before 1996. They may request that the employer transfer all or part of their retiring allowance to their RPP or RRSP.
The portion transferred is not subject to income tax deductions as long as the employer directly transfers it to the RPP or RRSP.
The amount transferred is commonly called the “eligible” amount. The amount that cannot be transferred without tax deductions is called the “non-eligible” amount.”
For year-end reporting, the non-eligible portion of a retiring allowance must be included in box 14 on a T4. True or False?
False. Do not include retiring allowances in box 14 on a T4. Report them in the “Other Information” area of the T4, using the applicable codes. Use code 66 to report the portion eligible for transfer to an RPP or RRSP even if it is not transferred. Use code 67 to report the non-eligible portion.
If the employee is a Status Indian, use code 68 to report the eligible amount and code 69 for the non-eligible portion.
For Revenu Québec year-end reporting, report the entire amount of a retiring allowance in box O on an RL-1. In the code box (case O), enter code RJ.
If you got all or most of the questions correct, congratulations! You definitely know your retiring allowance responsibilities.
