Understanding Retiring Allowance in Canada

Whether you leave your job voluntarily or involuntarily, you may be eligible for a retiring allowance. Contributing this allowance to your registered retirement savings plan (RRSP) or registered pension plan (RPP) can help minimize its tax impact. 

Keep reading to find out what a retirement allowance is and how you can reduce the tax consequences of receiving one. 

What is a retiring allowance?

A retiring allowance is an amount that an employee receives upon retirement in recognition of their long service, or an amount that an employee receives as compensation for lost wages upon termination of employment. You may receive the retirement allowance as a lump sum or installments spread over a fixed period. 

Many people think that a severance package and a retiring allowance is one and the same thing, but that is not the case. A retirement allowance is part of a severance package, which usually includes other payments, incentives, and benefits.  

A retiring allowance typically includes: 

• A payment for the unused sick leave credits you have on termination
• Termination payment (the amount that you receive when your employment is terminated)

A retiring allowance does not include: 

• Bonuses, salary, earnings, legal bonuses, and overtime pay
• A superannuation or pension benefit
• An amount received as a result of the death of an employee

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Eligible vs. Non-eligible retiring allowances

The eligible retiring allowance is that portion of your retiring allowance that you can transfer to your registered retirement savings plan (RRSP) without impacting your unused contribution room. In contrast, you can transfer the non-eligible retiring allowance to your RRSP only if you have unused contribution room. 

Contribution room refers to the maximum amount of money you can put into your RRSP in a year without inviting tax penalties. For 2024, the contribution room is 18% of your income in 2022 or $30,780, whichever is less. 

Let’s say you receive a retirement allowance in 2024 but have no unused RRSP contribution room. Despite this, you can still deposit the eligible retirement allowance into your RRSP right away. However, you will not be able to deposit the ineligible retirement allowance until January 1, 2024, i.e. when new RRSP contribution room will become available to you. 

Eligible Retirement Allowance

The eligible portion of your retirement allowance is the lesser of the following two amounts: 

• The total retirement allowance you receive; or, 
• The sum of: 

• $2,000 x the total number of years of service with the employer before 1996, plus
• $1,500 x the total number of years before 1989 for which you worked for the employer but were not entitled to benefits under DPSP or employer’s pension plan

A few important points regarding the eligible retirement allowance that you should keep in mind are: 

• Your employer may pay the eligible retirement allowance directly to you or transfer it to your RRSP
• If the employer transfers the eligible retirement allowance to your RRSP, your employer may not withhold tax on the amount transferred
• If the employer pays you instead of depositing into your RRSP, it will withhold tax
• You can still take advantage of the special rules if the employer directly pays you the eligible retirement allowance. However, you must make an RRSP contribution within 60 days from the last day of the year in which you received the eligible retirement allowance. 
• You can take advantage of the special roll over rules only if you transfer the eligible retirement allowance to your RRSP (i.e. an RRSP account where you are listed as the annuitant). You cannot transfer the eligible retirement allowance to a spousal RRSP under the special roll over rules

Non-eligible Retiring Allowance

The special rules do not extend to the non-eligible retiring allowance. However, you can still contribute it to your RRSP or a spousal RRSP to defer taxes. In order to do so, you must have adequate unused room and make the deposit within 60 days from the last day of the year in which you received the non-eligible retirement allowance.

Keep in mind your unused RRSP contribution room will decrease accordingly. Let’s say in 2024 you have $20,000 of unused contribution room and deposit $10,000 of non-eligible retiring allowance. This means you can contribute up to $10,000 more into your RRSP this year without getting slapped with a tax penalty.  

Retiring Allowance Contributions and Transfers

You may contribute (either via a direct transfer or an indirect transfer) all of the retirement allowance or part of it to your RRSP or RPP without reducing their contribution room. 

The following conditions apply: 

If you are working with the employer before 1996, you may directly transfer all of the retirement allowance or part of it to an RRSP, SPP, or RPP where you are the annuitant. This portion is called the eligible retirement allowance. Apart from an eligible portion, your retirement allowance may also include a non-eligible portion. You can deposit the non-eligible part of your retirement allowance to your RRSP only if adequate unused room is available. 

Rollover Payments

You can choose to receive your retirement allowance in a lump sum or in installments over several years. The employer may transfer the money directly to your RRSP or RPP. The transferred amounts cannot exceed your eligible retiring allowance minus the eligible portion you contributed in the previous year. 

For instance, let’s say your retirement allowance is $54,000 and you decide to receive it in eight equal annual installments (i.e. every year you will make $7,000). You can choose how each year’s installment is structured — that is, what portion of it will be eligible allowance and what portion non-eligible allowance.  

The Income Tax Act restricts the amount eligible for transfer to: 

• $2,000 for every year or part year before 1996 that you have worked for the employer
• $1,500 for every year or part year before 1989 that you have worked for the employer

Example: In January 2018, you retired and received $50,000 as your retirement allowance. Your service period was from 1985 to 2018 (33 years in total). 

The eligible retiring allowance that you can transfer to your RRSP or RPP account without impacting your RRSP or RPP contribution limit is $20,000 ($2,000 x 10 years (1986 – 1995)) plus $6,000 ($1,500 x 4 years (1985 – 1988)) = $26,000. 

Conclusion

You may be eligible for a retiring allowance when you leave or lose your job. Your retiring allowance may only include an eligible portion or it may include both an eligible portion and ineligible portion.

To contribute the eligible portion to your RRSP, you do not need contribution room. Nor will such a transfer reduce your contribution room for the year. The non-eligible portion, however, can only be transferred to your RRSP or a spousal RRSP if enough contribution room is available. 

Looking for help with understanding your retiring allowance and investments? Reach out to a Dundas Life licensed advisor today!

Frequently Asked Questions (FAQs)

What are unused sick leave credits?

Unused sick leave credits represent the total number of sick leave hours accumulated but not used by you. 

Can I transfer my retiring allowance to a spousal RRSP? 

The special rules allow contribution only to your own RRSP. You can transfer the eligible portion of your retirement allowance to an RRSP where you are the annuitant without impacting the contribution room. The special rules do not apply to the non-eligible portion of your retirement allowance. While you can transfer it to your own RRSP or a spousal RRSP to defer paying taxes, you can do so only if you have sufficient contribution space. 

What is covered in my retired allowance?

Generally, a retiring allowance includes: 

• A payment for the unused sick leave credits you have on termination
• Termination payment (the amount that you receive when your employment is terminated)

How do I claim retired allowance on my tax return?

On the T4 slip, you can find the eligible part of your retirement allowance in box 66. On the T3 slip, it is mentioned in box 47. List the amount mentioned in your T3 or T4 slip on the line 1300 of the income tax return. 

To claim a tax deduction for the money you contribute to an RPP, mention the transferred amount on the line 20700 of the income tax return. To claim a tax deduction for the funds you contribute to an RRSP, mention the transferred amount on the line 20800 of the income tax return.