By Greg Dalgetty
You may be doing a fine job of helping your clients prepare for retirement, but sometimes life can throw your clients a curveball in the form of unexpected job loss. In fact, life has thrown millions of curveballs this year: between February and April, three million Canadians lost their jobs.
Many clouds have silver linings, and job losses can have a bright side: they’re typically accompanied by severance packages. If your client was close to retiring when they lost their job, their severance package may be enough to bridge them to retirement. But if your client was more than two years out from retirement and doesn’t foresee re-entering the workforce, they could be in trouble.
That’s because the top award for severance packages in Canada is typically two years, explains Natalie MacDonald, an employment lawyer with MacDonald & Associates in Toronto. “There are a handful of cases where notice has exceeded that. But recently, case law has been clear that 24 months is the top award,” she says.
MacDonald, who represents both employers and employees, emphasizes that the purpose of severance packages isn’t to bridge severed employees into retirement. The so-called severance package is, in fact, reasonable notice: employers are obligated to pay the severed employee for a period of time until the employee can hopefully find another job.
During the reasonable notice period, employees are paid their salary and continue to receive benefits, as well commissions, bonuses and pension contributions, if applicable. When determining how long reasonable notice will last, MacDonald explains, an employer will consider the employee’s age, length of service, character of employment and availability of similar employment.
If your client is older and had a long history with their employer before being let go, the client may be able to negotiate a deal to stretch their severance package — but only under “exceptional circumstances,” MacDonald says.
For example, if your client was about two and a half years away from their planned retirement date, they could ask their employer to “flatten the amount of salary continuance,” so that 24 months of salary is spread over 30 months, MacDonald says. “But that’s only done in extreme cases because it defeats the purpose of what reasonable notice is for.”
Then there’s how your client’s severance package is paid: by salary continuance or in a lump sum. A lump sum payment may be tempting, but unless your client really needs the money, that may not be the wisest choice, says Robyn Thompson, president of Castlemark Wealth Management Inc. in Toronto.
“One of the biggest things to look at when it comes to severance pay is how it’s going to be taxed and when it’s going to be taxed,” Thompson says. “Can you spread the tax liability over a period of years rather than having it hit your bottom line all at one time?”
If your client’s goal is to minimize their tax liability, salary continuance makes sense. However, in some cases, your client may be able to negotiate multiple lump sum payments. For example, MacDonald says she has seen employers divide a single lump sum payment into two smaller annual payments so the severed employee “doesn’t have a huge tax bill.”
Even if your client isn’t strapped for cash, lump sum payments may be a good option if they have ample RRSP contribution room, says Ron Harvey, senior financial advisor with Investment Planning Counsel Inc. in Ottawa.
“If there’s RRSP room, shelter as much as you can because the money’s always going to be there for you when you need it in your retirement years,” says Harvey, who notes that clients also can use lump sum payments to top up their TFSAs. Another benefit of your client maxing out their RRSP, he adds, is that they’ll reduce their tax bill for the current year.
But MacDonald cautions that opting for a lump sum payment can come at a cost. For example, an employer may agree to pay a severed employee a lump sum but discontinue their health-care benefits and pension contributions because the employee is no longer on the payroll.
“I’m a big believer in negotiating severance packages that have health-care benefits built into them,” Thompson says. “Health risk and longevity risk are a big concern for people as they age. If you can have [health-care benefits] as part of the severance package, that holds a lot of weight.”
An earlier retirement than planned also may affect your client’s decision about when to take CPP and old age security (OAS). If your client needs the CPP and OAS money before turning 70, they should take it when necessary. But unless your client doesn’t anticipate living a long life, they usually are better off deferring these government benefits, Thompson says.
“If you can delay your OAS and CPP to [age] 70, then you increase [those benefits] by 30%,” Thompson says. “If you don’t have a defined-benefit pension plan, then what you’ve done is essentially guaranteed your income index for the rest of your life.”
When you help your clients determine when to take CPP and OAS, considering all the streams of income they’ll have in retirement is important, says Sophia Ito, financial advisor with Nicola Wealth Management Ltd. in Vancouver.
“Whether you delay [those benefits] or take [them] early, that’s all taxable income, and OAS in particular is subject to clawbacks,” Ito says, noting that a client may “jeopardize” their OAS if their other sources of retirement income disqualify them from receiving the benefit. “When I say ‘jeopardize,’ sometimes giving up the OAS may be a good thing. But oftentimes, if you plan well, you might be able to preserve that OAS a little more or be able to income-split [it with] a partner.”
If your client can’t afford to retire after losing their job, they may be forced to find other work. But even if they can afford to retire, they may not be ready to stop working, says Michelle Munro, director of tax and retirement research at Fidelity Investments Canada ULC.
“Pre-retirees are telling us more and more that they think they’ll be working in retirement,” Munro says. While some retirees may end up working because they can’t afford not to, that’s not always the case, she adds: “That paycheque means things such as an extra dinner out, a fancier vacation, a nicer car. [Continuing to work] makes life easier — it’s not to put food on the table or cover the necessities of life.”
Before taking the plunge into retired life — especially when that plunge comes sooner than expected — it’s important that your client carefully considers how they plan to spend their days in retirement, Thompson says.
“If you haven’t defined clearly what that looks like and you retire into an empty void, then what is it that you’ve worked so hard to achieve?” Thompson asks. “To retire and then be bored is counterintuitive to all the planning and all the joy that you’ve experienced along the way.”