In this Ontario employment law blog article, we discuss the impact of wrongful dismissal on pension plans upon termination, which will vary based on the type of pension plan itself.
What are the main types of employee pension plans?
If you are an employee working in Canada with a pension plan offered through your employer, you likely have one of the following main types offered by employers:
- Defined Benefit (DB) Pension Plan
- Defined Contribution (DC) Pension Plan
- Registered Retirement Savings Plan (RRSP)
Regardless of the type of pension plan, contributing to a workplace pension plan is beneficial for employees, since:
1. It is essentially extra income: there’s a requirement for employers to contribute to the employee pension plans when they set them up. And, some employers have a matching program, which means deciding not to join or participate in an workplace pension plan is essentially leaving money on the table.
2. Employee pension contributions are tax-deductible. Any money put into the pension plan reduce your taxable income for that year. Accordingly, pension plan contributions and investment earnings are tax-deferred until an employee withdraws them upon retirement.
What is a Defined Benefit (DB) Pension Plan?
A defined benefit pension plan provides retirement income based on a formula that considers many factors, including an employee’s:
- years of service with the employer
- salary
- age at retirement
With this type of pension plan, both employers and employees contribute (put money) into the pension plan. Then, all of the employer’s and employees’ contributions are pooled together in a pension fund that is invested, such as in a stock market, bonds, GIC’s and mutual funds. Once an employee begins withdrawing from the pension plan upon retirement, they receive a “defined” (or specific amount) of monthly retirement income.
The main disadvantages of a defined benefit pension plan are that the employee has no control over how or where the pension plan contributions are invested, they are complicated and expensive to administer (which is why many employers have switched to defined contribution pension plans). In fact, with a defined benefit pension plan, the employer or a pension plan administrator invests and manages the fund, and employees do not have to make any investment choices. The income an employee receives when they retire is usually calculated based on certain element, including salary and the number of years the employee contributed to the pension plan.
What is a Defined Contribution (DC) Pension Plan?
A defined contribution pension plan provides retirement income based on a specific employee’s savings you have in the plan. Unlike a defined benefit pension plan, it is simple to administer and there is no set income level that will be paid upon retirement. Rather, the amount of retirement income an employee receives depends on:
- how much you contribute to the plan
- how much your employer contributes
- how that money grows over time
With a defined contribution pension plan, an employer and employee both contribute a defined amount into the plan each year, such as 4% of an employee’s base salary every bi-weekly pay cheque. In many cases, employers have mandatory employer contributions, and most have an optional employee component. Generally, an employee is able to control how the pension plan funds are invested, and can select investments based on their own risk tolerance and goals. The investment performance determines what your retirement income will be. Any money put into an RRSP, up to the limit, reduces your taxable income for that year.
What is a Registered Retirement Savings Plan (RRSP)?
Essentially, a Registered Retirement Savings Plan is a type of savings account that helps employees save for their eventual retirement. Any RRSP contributions are tax-deductible, which means they can reduce annual income taxes. Any income earned in the RRSP are usually exempt from tax as long as they remain in the RRSP (not withdrawn). However, you will generally have to pay tax when you receive payments from the RRSP. In many workplaces with an RRSP, an employer will “match” (contribute) a certain percentage of an employee’s salary for participating in the plan (e.g., 4% of base salary).
What Happens to an Employee’s Pension in a Termination of Employment?
Upon termination of employment, the general rule is that unless the employee has agreed to receive a specific severance package as part of a termination clause set out in an employment contract, the employer must provide the employee with common law notice of termination (or pay in lieu of notice). In other words, the employer is usually required to provide the employee with their full severance pay entitlements in a termination without cause based on many factors, including:
- employee’s age
- employee’s years of service
- employee’s job title, responsibilities and compensation
- employee’s education and job qualifications
- economic and labour market conditions
The impact of wrongful dismissal on pension plans depends on a few important considerations. First, whether the employee was terminated for cause or terminated without cause. Secondly, what type of pension plan the employee was participating in at the time of employment termination.
What was the Reason for Termination of Employment?
In a termination for wilful misconduct disobedience or wilful neglect of duty that is not trivial and has not been condoned by the employer, an employer may be permitted to fire an employee “on the spot,” without any prior notice or financial severance package compensation. This is generally difficult for employers to justify in most cases, as it requires some sort of intentional misconduct by the employee.
Otherwise, if an employer cannot prove the employee was guilty of wilful misconduct, it may be able to terminate the employee for cause, that is, misconduct that does not reach the high level of intentionality but is sufficiently serious as to warrant a termination by only providing the employee with their minimum statutory entitlements to notice of termination or termination pay, and severance pay (e.g., poor performance despite many opportunities to improve, such as with a performance improvement plan). In such case, the employer may be excused from providing the employee with their full severance package entitlements under common law.
If an employer is unable to prove the employee should be fired for wilful misconduct or just cause, it can still terminate the employee without cause. In such case, the employer does not have to provide any reason whatsoever (as long as it is not discrimination or reprisal), and the employer provides the employee with a prior notice of termination or a severance package based on either their employment contract entitlements, or otherwise, common law entitlements. In such case, the employer must provide the employee with a severance package that compensates them for all of the base salary, benefits, bonus, commissions, health benefits and, of course, pension plan benefits.
Is it a Defined Benefit Pension Plan or Defined Contribution Pension Plan?
If an employer cannot prove it was justified in terminating an employee for cause, or otherwise does not provide an adequate severance package compensation, it would be responsible for providing damages for wrongful dismissal. In such cases, an employee would be entitled to be “made whole” when it comes to their pension plan benefits, as follows:
- Defined Contribution Pension Plan: the employer owes the value of the pension contributions that would have otherwise been made during the notice period. In other words, the employer must continue making pension plan contributions after the termination date, either for only the statutory notice period required the ESA if permitted by an employment contract, or otherwise, for the entire duration of a wrongfully dismissed employee’s common law notice period.
- Defined Benefit Pension Plan: the employer owes the employee damages based on the “commuted value methodology”, which determines the present value of the difference between the value of the pension at the time of termination and the value of the pension at the time the employee should have been lawfully terminated. In other words, the employee is entitled to the increased value that would have accrued to the employee’s pension entitlement until the end of the employee’s common law reasonable notice period.
A termination of employment is a difficult and confusing time, especially when it comes to reviewing a severance package, or negotiating a severance package, as a wrongful dismissal impact an employee’s base salary, bonus, health benefits and pension plans. Therefore, in a wrongful termination of employment, it is important for employees to consult with an employment lawyer for a severance package review to understand the impact of wrongful dismissal on pension plans. If you are an employer or employee needing to speak with an experienced Ontario wrongful dismissal lawyer to discuss your options and next steps on how to deal with workplace issues, call Bune Law, employment law firm in Toronto. You will review and get guidance on your severance package before you agree to sign any termination documents, and help ensure that your severance package is fair and reasonable.