Financial Planning of an Employment Termination

Recent government statistics show that employees aged 25 to 54 work an average of 38.6 hours a week. Extrapolating this statistic over an entire life, the average Canadian will work over 87,000 hours until retirement at around age 65.

Considering the important place that work occupies in our lives, it’s normal that an employment termination raises a lot of questions. Whether it’s due to retirement, a move to a new job, a layoff or dismissal, this change in your life should always be planned in order to minimize its impacts and the resulting stress.

There are several important aspects to consider when planning an employment termination. Setting aside the elements that are specific to your situation, here are a few elements to consider:

Termination agreement

The termination agreement includes a negotiation of several elements: the amount of notice given, unpaid hours of work and vacation time, accumulated unused sick days, salary in lieu of notice, severance pay, retirement allowance, non-competition and confidentiality clauses, career transition services, long-term incentive plans, etc.

Signing a termination agreement has substantial tax impacts. Generally, any salary or retirement allowance is taxable. However, some amounts might be considered non-taxable, such as a reimbursement of legal expenses in connection with the employment termination, expenses related to vocational guidance, and compensation paid for damages resulting from defamation, harassment, abuse of rights or violation of human rights.

Those who have gone through the process of negotiating a termination agreement will tell you that it is a real art to negotiate a fair termination agreement for both the employer and the employee, and to ensure that the agreement is tax efficient. Whether you decide to use the services of a labour lawyer together with a financial planner, it goes without saying that getting assistance from a qualified professional is sure to be very useful in protecting you and ensuring you receive what you are entitled to.

Retirement allowance

Individuals with years of service before 1996 may be able to transfer all or part of a retirement allowance to a registered pension plan (RPP) or a registered retirement savings plan (RRSP). This part is commonly called the eligible portion or the amount eligible for transfer. A retirement allowance may include an eligible portion and a non-eligible portion.

The amount eligible for transfer is limited to the following:

$2,000 for each year or part of a year before 1996 that you worked for that employer; plus
$1,500 for each year or part of a year of that employment before 1989 in which none of your contributions to the RPP or deferred profit sharing plan were vested in your name at the time of payment of the retirement allowance. To determine the equivalent number of years of vesting, refer to the terms of the particular plan. This number can be a fraction.

Life insurance contracts

Your group insurance contract will end upon termination of your employment.

Group life insurance contracts generally include a conversion right. If you are under 65 at the time of termination of your employment, the conversion right, if performed within 31 days of the agreed termination date, can change your group life insurance into temporary or permanent individual life insurance.

Since an employment termination rarely leads to a decrease in life insurance needs, the conversion right allows you to keep your life insurance in force, regardless of your health status. However, the conversion does not necessarily mean it is more advantageous. It is still important to consult a qualified life insurance professional to find out what your options are.

But this also offers you a good opportunity to review your estate planning and more accurately determine your specific life insurance needs (to pay your taxes upon death, to provide liquidity to your estate, to make a donation to a charity, etc.).

Insurance against sickness and accidents

Your group insurance contract will end upon termination of your employment.

Drug insurance: You should verify whether you are eligible for a private drug plan (from a new employer, an association or professional order of which you are a member; or through your spouse). If you qualify for such a plan, you are required to join. If you are not eligible for a private plan, you must register for the Public Prescription Drug Insurance Plan administered by the Régie de l’assurance maladie du Québec.

Short-term disability income insurance: There is usually no conversion right, but a few plans do include it. You should refer to your policy for details.

Long-term disability income insurance: Certain protections allow a conversion right to an individual plan without medical evidence. If permitted, the request must be made and the first premium be paid within 31 days of the hiring date of your new job. Furthermore, your new job must begin within six months after the agreed termination date of your current job. See your policy for details.

For other types of insurance, please refer to the respective policies.

Pension plans

If you participate in a defined-contribution pension plan, you will have the right to receive your own contributions (if any) and those made by your employer on your behalf, plus interest. Such amounts may either be left in the employer’s pension plan, be transferred to another pension plan (where permitted) or be transferred to a locked-in retirement account (if the money came from a provincial pension plan) or a locked-in RRSP (if the money came from a federal pension plan). All amounts that are not locked-in can be withdrawn.

If you participate in a defined-benefit pension plan, you will have to choose between receiving an annuity and transferring the value of the annuity to another plan (where permitted) or to a savings or disbursement vehicle, depending on the case. This can be a great opportunity to review your retirement planning and more accurately determine your specific needs in terms of cost of living over the coming years.

The transfer value offers several advantages:

• Income flexibility: The withdrawal amounts are left to your discretion, according to your needs (within the allowable minimum and maximum withdrawals from a LIF). In the event that you need short-term liquidity, the transfer value may be beneficial if you are not able to demand immediate payment of the annuity.
• Estate benefit: If the annuitant has no spouse, the estate will benefit from the transfer. If the beneficiary is the spouse, the estate value will be greater in the event of death in the short to medium term.
• Taking into account the tax impacts, if your investor profile allows you to expect a better return (net of management fees) than the implicit assumption of the discount rate used in calculating transfer values, then the transfer value may be an advantageous choice. Your investor profile must be taken into account, and the portion of the transfer value that is taxable
• upon withdrawal should also be considered in the calculations.
• If your health status or family history greatly reduces your life expectancy, then the transfer value may be an interesting choice.
• In the event that the solvency ratio of the pension plan is less than 100%, if the company declares bankruptcy, then participants will see their promised annuity reduced in order to compensate. A transfer allows for a complete transfer of the value, without the worry of potential future bankruptcies.

On the other hand, the annuity also offers several advantages:

• Peace of mind: The annuity is guaranteed for life without risk related to return on capital. Market risk is taken on by the plan. This may also be a benefit for your spouse in case of death.
• The survival risk to the capital is assumed by the plan.
• Cash flow: LIF constraints may mean that the maximum withdrawal is less than the normal annuity provided by your pension plans.
• The annuity is for life. The survival risk is assumed by the plan. All other things being equal, if you expect to live beyond the considered life expectancy, then the annuity may be advantageous.
• If the funding ratio of the pension plan is equal to 100%, if the plan is terminated, then each participant would receive a taxable lump sum corresponding to the present annuity value, according to the economic assumptions described in the trust agreement.
• If the employer decides to index the annuity on a voluntary basis or improve plan benefits when you have already opted for the transfer value, then you will not benefit from these improvements.
• The annuity payable under the plan is eligible for pension income splitting with your spouse starting at age 60 and up to 50%.

Whether you are questioning your current job or have to leave involuntarily, please contact us. We can assist and support you during this time of change.