In a recent Tax Court of Canada decision, several Canada Revenue Agency (“CRA”) employees appealed to the court to determine whether a labour relations settlement qualified as taxable income.

Employees Receive Settlement from the CRA

In May 2016, three CRA employees (the “employees”) made successful grievances to the Public Service Labour Relations and Employment Board (the “Board”). At the time, they were all experienced team leads in the CRA’s Revenue Collections Division.

The employees’ grievances addressed an arbitrary overtime policy implemented by an assistant director in 2009. From late 2010 to early 2012, overtime hours were only offered to team leads who were already in a particular section of the work division. Prior to this change, the policy had been to offer available overtime to all team leads regardless of their home section. The new policy effectively excluded the employees from overtime opportunities.

The employees made multiple inquiries about the policy change and expressed their interest in working overtime on several occasions without success. The employees described the assistant director’s behaviour toward them as bullying, aggressive, and harassing. They then filed grievances which were ultimately adjudicated before the Board. Specifically, they asserted that their employer had breached a clause of their collective agreement which stated that among other things, the employer “shall make every reasonable effort to … offer overtime work on an equitable basis among readily available qualified employees.”

The hearing took place in 2015 and the Board allowed the grievances on May 6, 2016. The Board found that the assistant director had changed the way in which overtime was distributed and in doing so, the employer acted arbitrarily and violated the overtime provisions of the collective agreement. 

The employees’ representative requested monetary compensation for their losses resulting from the employer’s violation of the collective agreement. The Board agreed and left the matter in the parties’ hands to determine the appropriate amounts.

During the ensuing negotiations, the assistant director was advised that the payments would be taxable as income. At the same time, the employees wanted to insert wording into the settlement agreement that the payments represented general damages for personal injury, because they believed that such wording would position the settlement as non-taxable damages rather than taxable income. 

The parties reached an agreement and signed a memorandum in March 2017. The settlement memorandum did not describe the payments as general damages for personal injury.

Employees Go to Court to Determine Taxation Issue

The employees claimed that the monetary award constituted damages for personal injury and violation of their rights under their collective agreement. As a result, they argued that the amount should not be taxed as employment income because it was a personal injury award and therefore fell under the exception in paragraph 81(1)(g.1) of the Income Tax Act(the “Act”).

Paragraph 81(1)(g.1) of the Act describes the exception as “income for the year from any property acquired by or on behalf of a person as an award of, or pursuant to an action for, damages in respect of physical or mental injury to that person […]”

Tax Court of Canada Finds Settlement Is Taxable

The court began by explaining that if it determined that the employees’ compensation awardfit within the exception underparagraph 81(1)(g.1) of the Act, then it would not taxable as employment income.

The court then explained that, in order to characterize the nature of a compensation award for tax purposes, it must first look at what the settlement payment was intended to replace and, second, determine whether the replaced amount would have been taxable.

Ultimately, the court found that the settlement did not fit within the Act’s exception, stating:

“Specifically, the compensation award – based on an agreed number of hours – replaced the remuneration the [employees] would have received had they been offered and in turn accepted overtime work. Those amounts would have been taxable as employment income at first instance. If the [employees] had been compensated with time in lieu of monetary payments, I believe that the additional vacation leave would likely be a taxable benefit.”

As a result, the court found that the CRA employees’ settlement was taxable income.

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Mark Feigenbaum brings together many years of litigation experience with a deep knowledge of tax law, corporate law, accounting, finance, and other related practice areas. Mark can help you avoid the biggest risks that may arise in tax disputes.

Prior to founding his law firm, Mark worked in the cross-border tax department of an international Big 4 firm, and held accounting management positions across a variety of sectors in both Canada and the United States.

With tax legislation in constant flux on both sides of the border, Mark takes great care to stay current on all relevant developments in law and policy. He carefully considers all solutions available to craft a response that proactively considers the policies and best practices of a given tax authority.

If you are involved in a tax dispute or related litigation, contact Mark Feigenbaum for exceptional representation and guidance. Mark’s many years of interdisciplinary knowledge in law, tax, accounting, and finance and significant cross-border experience make him uniquely positioned to assist you. Mark offers services to clients in the U.S., Canada and around the world. Contact Mark online or call him at (905) 695-1269 or toll-free at (877) 275-4792 to book a consultation.