What Small Business Owners Need to Know - Severance Costs Can be Expensive

When I meet with my clients to review their financial statements, I typically have an agenda of various topics I wish to discuss with them. One topic I like to review is their staffing situation. We typically analyze "accountant numbers" such as staffing costs as a percentage of sales, but I also like to review other employment related issues such as whether the client has updated employment contracts and have they entered into consulting contracts (employee vs independent contractor issues).

Once on this topic, clients often want to discuss their severance cost obligations with respect to (a) dismissing an employee (b) downsizing if their business fell off and (c) obligations should they sell the business? Since those issues are way beyond my skill-set, I refer them to their employment lawyer.

Since I thought you may wish to know the answers to these questions, I asked Stephen Shore of the firm Sherrard Kuzz LLP, an employment and labour law firm, if he could provide his expertise on the severance issue.

Stephen kindly agreed to write a blog post on The Top 5 Severance Issues for Business Owners in Ontario. Before I turn it over to Stephen, please note that; employment law can vary significantly from province to province and the below commentary is limited to Ontario. The commentary is also general in nature. You should seek employment law counsel in your own province that addresses your specific situation. With all these caveats out of the way, let's get to Stephen's post.

The Top 5 Severance Issues for Business Owners in Ontario
By Stephen Shore, Sherrard Kuzz LLP, Employment & Labour Lawyers

The following are in my professional opinion the top 5 severance issues for business owners in Ontario.

1. Obligations on Termination – How much will I owe?

The “cost” of terminating an employee will depend on many factors, including the following:

1. Is there a valid employment agreement?
2. How long has the employee been with the company?
3. How old is the employee?
4. How much did s/he make?

A business owner who has not pro-actively considered the cost of termination is often surprised by the size of the “bill”. On the other hand, those who plan ahead achieve two extremely valuable objectives: (1) lower cost and (2) cost-certainty.

The easiest and most straight-forward way to achieve these objectives is through the use of a written employment agreement which defines the terms and conditions of employment, including what happens on termination. Properly drafted and executed, an employment agreement can limit an employee’s entitlement upon termination to the minimum amount set out in the employment standards act (roughly one week per year of service). Without an employment agreement, that amount can be upwards of one month per year of service, and even higher. That can amount to a very big financial difference, particularly if the employee has been with the company for many years.

An employment agreement may also be used to secure other significant protections such as non-solicitation and confidentiality obligations.

A business that operates without written employment agreements leave itself vulnerable to the will of the employee-friendly courts. This is not a desirable place to end up.

The most prudent approach is to have all employment contracts prepared by experienced employment counsel, and reviewed periodically, to ensure the language used is and continues to be enforceable. Employment contracts should not be attempted without professional assistance.

2. Employment Standards Act Requirements – Do I owe statutory severance pay?

The Employment Standards Act (“ESA”) sets the minimum (floor) for what an employee is owed upon the termination of employment.

There are two (2) categories of potential payment under the ESA: “termination pay” and “severance pay”. Though the general public tends to use these terms interchangeably, “termination pay” and “severance pay” are not the same.

Under the ESA, an employee is entitled to advanced “notice” of termination, which notice can be given in the form of “working notice”, “pay in lieu of notice” (“termination pay”) or a combination of both.

“Severance pay” is owed to an employee regardless whether the employee is entitled to “termination pay”, but is only owed to an employee who has greater than five (5) years of service and whose employment is terminated by an employer with a payroll greater than $2.5 million dollars.

In calculating whether the 2.5 million dollar payroll threshold is met, an employer must look at: (i) the aggregate wages of employees in the fiscal year prior to the severance, and (ii) the product of the total wages of employees during the four (4) weeks prior to the termination multiplied by 13. If either amount exceeds 2.5 million the threshold is surpassed and the employee is entitled to “severance pay” in addition to whatever “notice” to which the employee is entitled.

3. Temporary Lay-off vs Termination – Am I permitted to lay-off an employee for a period of time?

Many business owners are surprised to learn that – at law – an employer does not have the right to “lay-off” an employee for any time period, regardless whether there is a good reason or however short the period of time. The act of “laying off” can be treated by the employee as the termination of his or her employment and a wrongful dismissal suit may follow.

That being said – the “right” to lay-off an employee can be introduced into an employment relationship through an employment contract or practice. That is to say, an employer and employee can agree in a written employment agreement (or, in the case of a unionized workplace, a collective agreement) that an employee can be laid-off without triggering a termination. Alternatively, if the employee has experienced lay-off on several previous occasions without complaint, then it may be implied that, through practice, the right to do so has been introduced into the relationship.

It is important to note that even where the right to “lay-off” has been introduced into the employment relationship, the “lay-off” must comply with the provisions of the ESA which sets limits on the length of time a temporary lay-off may last and requires certain employee entitlements to continue during a period of layoff (i.e., group benefits). Once again, a lay-off provision should not be attempted without professional assistance.

4. Mass Termination – Are there special rules for a major restructuring event?

Yes – there are special rules which apply when fifty (50) or more employees are being terminated in a four (4) week period.

These special rules are subject to exceptions and qualifications, and legal advice should be sought in every case of a potential mass-termination. That said, the ordinary consequence of a mass-termination is an increased advance-notice requirement or, failing that, an increased liability for ESA “termination pay”. The amounts are as follows:

1.  For 50 – 199 terminated employees: At least 8 weeks’ notice
2.  For 200 – 499 terminated employees: At least 12 weeks’ notice
3. For 500 or more terminated employee: At least 16 weeks’ notice

In addition to the increased notice / “termination pay” requirements, an employer who carries out a mass-termination has reporting and posting requirements imposed by the Ministry of Labour (Ontario) which, if ignored, can have enormous financial impacts.

A mass-termination event is a very sensitive event which imports significant regulatory obligations. An employer is well advised to seek expert assistance well in advance of a potential occurrence.

5. Termination Meeting – How do I tell someone their employment is being terminated?

In carrying out a termination meeting, an employer is expected to be respectful, fair and compassionate. The failure to do so could result in significant damages.

This does not mean an employee is entitled to an explanation, justification or discussion concerning the merits of the decision to terminate. Rather, it requires an employer avoid being harsh and insensitive by, for example, publicly humiliating the employee or terminating the employee on his/her birthday or holiday.

The communication in the meeting should be direct and firm. The employee should be provided with an original signed copy of the termination letter.

Other best practises would be to have a second company representative present to take notes. The meeting should be held towards the end of the working day (if possible) or at a time when the employee would be able to leave without encountering his or her colleagues. Following the meeting, the employee should be permitted to retrieve personal belongings and security should be on-hand and utilized only if required. It is sometimes appropriate to offer the employee transportation home (i.e., taxi).

Once the termination meeting is complete, access to email and electronic records should be discontinued and a communication should be sent to other employees advising that the employee is no longer with the company.

Additional considerations may apply where the termination is for cause, where an offer of settlement is being made or where other factors are involved (e.g., unionized environments, mass-terminations, etc.). Professional advice is always recommended to ensure all legal and technical aspects of the termination are covered.

Stephen Shore is an experienced employment and labour lawyer, representing employers. Stephen regularly writes for a variety of employment and labour law publications and speaks on his areas of expertise. Please feel free to contact him directly at 416.603.6264 or by e-mail at sshore@sherrardkuzz.com. Sherrard Kuzz LLP is one of Canada’s leading employment and labour law firms exclusively representing the interests of management. Recognized nationally and internationally, this team is consistently named among Canada’s Top 10 Employment and Labour Boutiques (Canadian Lawyer®), Canada’s Leading Employment & Labour Law Firms (Chambers Global®) and as Repeatedly Recommended (Lexpert®).

The above blog post is for general information purposes only and does not constitute legal or other professional advice or an opinion of any kind. Readers are advised to seek specific legal advice regarding any specific legal issues.

This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation. 

Small Business Owners - Get on my Mailing List

If you are an owner-manager and/or a shareholder in a corporation and have not signed up for my corporate mailing list, please email me at bluntbeancounter@gmail.com.

I will be sending out specific mailings on matters of importance to small business owners and I am considering, depending upon the interest, holding a roundtable for small business owners who are in the Toronto area. Now that tax season is over, I will start the mailings shortly.

Thanks to the many readers who have already signed up.