Severance Options for Employers

In this blog post, we will discuss the main severance options for employers who need to terminate employees. We will review the source of severance obligations before summarizing the pros and cons of the main severance formats to meet those obligations.

What are my severance obligations?

Almost all B.C. employers will have two distinct termination obligations: firstly to provide statutory minimum notice or pay in lieu under the Employment Standards Act (ESA) and then to satisfy contractual severance entitlements. Naïve employers sometimes wrongly assume all they have to provide are ESA minimums. A limited number of employers who fall under federal employment jurisdiction (e.g. telecoms, banks, interprovincial transportation companies) have slightly different statutory obligations under the Canada Labour Code.

The scope of contractual severance obligations will depend on whether there is a valid termination clause in a binding employment agreement, which defines the employer’s contractual severance obligation. A valid termination clause can clearly define and limit severance liability on termination. If none is in place, then the courts require employers to provide a “reasonable notice period” (RNP) under common law. This post will not deal with the complex manner in which the courts set the discretionary RNP for each employee, but suffice it to say that RNPs always exceed statutory minimums, often by a factor of three or four but sometimes much more.

Here are the main ways these termination obligations can be met.

Working Notice

ESA minimum termination notice can be given as working notice, provided that the notice period does not include vacation or other leaves. Similarly, under most termination clauses, the employer is entitled to give working notice or pay compensation in lieu. However, under a few termination clauses, typically found in executive employment agreements, lump sum severance must be paid on dismissal. Common law RNPs can also be provided in the form of working notice.

While many employers are initially attracted to the idea of having terminated employees work during their notice period and thus contribute to the business, many clients say that past experiences with working notice have been disastrous. Most employees expect to receive lump sum severance so are unhappy to be placed under working notice and thus become unmotivated in their work. In some cases, the employees under notice may become disruptive or even outright detrimental to productivity. While it is possible to fire employees working out notice of termination, the burden of proving just cause remains high. At a minimum, the employees under notice will negatively impact the morale of the remaining employees. Finally, if only working notice is given, there is no basis for requiring the employee to sign a release of claims, which many employers prefer as it confirms no claim will be made.

Generally, we only recommend using working notice when the termination is part of a larger group (e.g. the closure of a location) and thus not personal to the particular employee. Even then, we recommend offering some severance if the employee works to the end of the notice period as an incentive to work productively over the notice period and in order to secure a signed Release. That being said, some project-based industries such as architecture and construction are able to use working notice more widely.

Lump Sum

As noted above, most employees expect and prefer lump sum severance on dismissal. The ESA requires payment of termination pay in lieu of working notice within 48 hours of termination. Contractual lump sums are required in some executive employment agreements. Recent case law has held that even under a termination clause that provides for working notice, if the employer terminates effective immediately, lump sum severance equal to the compensation that would be earned over the contractual notice period is payable as a lump sum.  For employees who are entitled to common law RNPs, under common law, the employer’s liability for severance over the RNP is reduced by re-employment earnings during the RNP (aka “mitigation”). As a result when making lump sum offers to satisfy RNP liability, employers can discount the total amount of severance from the potential full RNP to reflect possible re-employment income. Thus, it is common for employers to offer only 66-80% of the estimated RNP liability as a lump sum and most employees will accept such a “mitigation discount”.

Unconditional Amount Payable over Notice Period

Under this option, after terminating and paying ESA entitlements, the employer continues pay through the required notice period but with no conditions regarding re-employment status of the employee. Most termination clauses and common law allow this format. For common law severance, the length of the payments can still be discounted from the estimated full RNP like a lump sum. Often this format is chose to facilitate the continuation of benefits, particularly service under a defined benefit pension plan. If the employer is concerned about the employee’s conduct post termination (e.g. compliance with a non-compete or non-solicit), payment of severance over the notice period can motivate the employee to comply since there is a risk the employer will stop payments in the event of a breach. The employer can expressly stipulate for the right to discontinue payment in the event of a breach by the employee of his/her post-termination obligations.

Continuation of Compensation with Condition re Re-employment

Under this format, available for employees with common law RNP entitlements, compensation is continued but the employee is placed under an obligation to look for alternate employment and report any re-employment to the employer. Typically, if the employee becomes re-employed, only 50% of the balance of remaining continuation payments are paid. The idea is to allow the employer to save some money if the employee re-employs during the severance period. Unfortunately, the courts have required such severance packages to be longer and many employers who tried this format confirm that, mysteriously, no employees ever report being re-employed before they have received all payments, thus negating any actual savings. In fact, offering a discounted lump sum may save more money.

In most cases, it is possible to combine two of the above options.

In closing, before terminating, review the scope of your severance obligations to the particular employee, whether under the ESA, a termination clause or common law, and then select the appropriate option amongst the severance formats above. We strongly recommend you work with experienced employment counsel when structuring severance packages.

If you want more information on this topic, you can contact us at:

Geoffrey Howard:           ghoward@howardlaw.ca

604 424-9686

Sebastian Chern:            schern@howardlaw.ca

604 424-9688