The ‘rule of thumb’ of one month per year of service is not reflective of reality
Imagine that you hire a new executive. Perhaps you even recruited her away from a competitor. However, you protected yourself by making sure that she signed a strong employment contract with a termination clause that limits her entitlement if you let her go.
Imagine that four or five months into the relationship, it becomes clear that it is not working out. So, relying on the termination clause, you make the decision to terminate her employment and, although her contract only requires a week of termination pay, you decide to be generous and offer three (in exchange for a Full and Final Release, of course), and are subsequently on the receiving end of a demand letter from her lawyer demanding a year of severance pay. The reality is, this is not inconceivable and, furthermore, she may be entitled to substantial compensation.
As regular readers know, our courts have considered hundreds of cases over the past few years in which contractual termination clauses were challenged. In many cases, they have deemed them to be unenforceable. In 2020, even though our courts were closed for much of the time, we still had several significant employment law decisions, including Waksdale v. Swegon North America Inc., Matthews v. Ocean Nutrition Canada Ltd., and more. We have written about some of the decisions and issues on several occasions, including here and here.
The bottom line is that, in many cases, termination clauses will not achieve the purpose for which they were intended. Sometimes it is the contract that is unenforceable due to a lack of consideration; for example, many organizations still only have employees sign their contracts when they show up for their first day of work. In other cases, the contract is fine but the termination clause is ambiguous, does not clearly displace the common law entitlement to reasonable notice, or has the potential to breach employment standards legislation, many employers are in for unpleasant surprises.
And now that Waksdale is the law in Ontario, a tremendous number of termination clauses are likely to be unenforceable, so that employers will be unable to rely on termination without cause clauses because the termination for cause clause could potentially breach the Employment Standards Act, 2000.
To make matters worse for employers, notice periods for short-service employees seem to be getting longer in many circumstances. The end result is that you may think that your recently dismissed executive was only entitled to a week of notice, but their legal entitlement may actually be several months of total compensation.
It is clear that the “rule of thumb” of one month per year of service is not reflective of reality. Our courts have repeatedly rejected this “rule” and, more importantly, an analysis of the case law confirms that the rule of thumb is not borne out. Short-service employees consistently receive more than one month per year, particularly if they are older or in more senior positions.
Further, courts will look at many factors aside from length of service. Bardal, which we still reference today, referenced factors including the age of the employee, the nature or character of their position, and the availability of similar employment and made it clear that this was not an exhaustive list. Since that decision, dozens of other factors have been considered.
So what is the bottom line? I often hear employers say, “They have only been here for a few months, so we’ll just give them a few weeks of severance”. This is a critical mistake, as it is blindly assuming that your contracts and termination clauses will displace the common law obligation to provide reasonable notice and reduce your severance costs.
Employers should have their contracts reviewed by an employment lawyer and get proper advice before any dismissal, so that they can avoid unpleasant and costly surprises.