Pre-1996 service the buyer was told did not count

The situation

A buyer acquired an Ontario commercial printing business on an asset purchase at $6.8 million, taking on 44 employees. Three bindery staff had been at the same machines since the 1980s and early 1990s, and five months after closing the buyer eliminated their roles, negotiating packages of $96,000, $71,000 and $58,000.

Those payments are retiring allowances: the Income Tax Act s.248(1) definition catches an amount received “in respect of a loss of an office or employment of a taxpayer”, and s.56(1)(a)(ii) brings it into income. All three employees asked the same question: how much can go straight into my RRSP? See the retiring allowance glossary entry.

The problem

The payroll bureau answered: none of it. The reasoning was short and, on its face, sound. The rollover in s.60(j.1) is capped by clause (ii)(A) at “$2,000 multiplied by the number of years before 1996 during which the employee or former employee in respect of whom the payment was made…was employed by the employer or a person related to the employer”. The employer here is the buyer, which had bought the business from a vendor it never met in a brokered arm’s-length sale. So no pre-closing year counts, the eligible portion is nil, and the whole $225,000 is non-eligible. Three T4s were prepared that way.

The argument is seductive because both premises are true. The parties genuinely were at arm’s length, and the tax result genuinely does not follow the employment-law one: ESA s.9(1) deems the seller’s years to be years with the buyer, but only “for the purposes of this Act”. The error is in neither premise. It is in reading related at the wrong unit — answering out of the Act’s general rules a term that s.60(j.1) defines for itself.

The numbers

Worked correctly, the three give three different answers, and the variable is not length of service.

• • Employee A — hired March 1984. Twelve pre-1996 years at $2,000 = $24,000. Five fall before 1989; the DPSP vested only from 1987, so three were unvested and clause (B) adds 3 × $1,500 = $4,500. Eligible: $28,500 of $96,000.
• • Employee B — hired August 1991. Five pre-1996 years = $10,000; no pre-1989 service, so clause (B) adds nothing. Eligible: $10,000 of $71,000.
• • Employee C — hired 1998, 28 unbroken years, the longest run of the three. No pre-1996 service. Eligible: nil, on $58,000.

$38,500 was eligible against the $0 first reported. The remaining $186,500 was always fully taxable — the rollover prices a window of calendar time that closed on 31 December 1995.

Three details come from CRA, not the Act, and should be labelled that way. The statute speaks of “the number of years before 1996”; CRA’s Employers’ Guide — Payroll Deductions and Remittances (T4001) states the limit as “$2,000 for each year or part of a year before 1996 that the employee or former employee worked for you (or a person related to you)”. That is why Employee A’s nine months of 1984 counted as a full year — an administrative position in a guide, not statutory wording; for clause (B) the guide directs you to the plan’s own terms, which is where the figure two came from. And it records that “the rollover of the eligible amount is completed regardless of the RRSP room available to the employee receiving the retiring allowance” — two of the three had almost no room left.

The rule that decided it

Section 60(j.1) does not end at clause (ii)(A). After the arithmetic, after clause (iii), it closes with a definition of its own — “for the purposes of this paragraph, person related to the employer includes” — then two clauses with nothing to do with shareholdings or families.

• • Clause (iv): “any person whose business was acquired or continued by the employer”.
• • Clause (v): “a previous employer of the retiree whose service therewith is recognized in determining the retiree’s pension benefits”.

Clause (iv) is this transaction, described exactly. The employer is the buyer; the person whose business the buyer acquired is the vendor. So for this paragraph — and no other purpose in the Act — the vendor is a person related to the employer, and every pre-1996 year spent with the vendor counts in clause (A). The Act’s general related-persons machinery asks about blood, marriage, adoption and control. Clause (iv) asks about the business, and the paragraph tells you which test to use.

• • The unit is pre-1996 calendar years, not service. Employee C had 28 unbroken years and nil.
• • Clause (B) measures unvested years, not pre-1989 years. It pays $1,500 for the amount by which pre-1989 years exceed the equivalent years in which employer pension or DPSP contributions had vested — five with two vested gives three.
• • Clause (v) is a different reach, not a restatement. It picks up an earlier employer only where that service is recognised in determining pension benefits. Where a business has changed hands twice, clause (iv) plainly catches the immediate predecessor; whether it reaches further back turns on whether the employer “continued” that earlier business — a point on which no CRA interpretation was found and none is assumed here.

The outcome

The three T4s were corrected before filing and $38,500 went directly into the employees’ own RRSPs. Explaining why the longest-serving of the three still got nothing took longer than the correction.

The larger correction was upstream. The same advice had been used in negotiation: the parties had discussed having the vendor pay the allowances before closing so the vendor’s own years counted under clause (A), with roughly $40,000 of purchase price moving to fund it. That was never necessary — clause (iv) reaches the identical amount with the buyer paying. Related: vacation accrued and never paid out.

What it would have cost otherwise

Left uncorrected, $38,500 that could sit inside a registered plan would have been taxed as ordinary income in one year. The cost is not the buyer’s, which is precisely why it survives: nobody on the buy side had a dollar riding on it.

The structural point is worth more than the money. There is a widely held belief that the share-versus-asset choice moves value to the employee here: that a share purchase preserves the rollover, because the employer corporation never changes, while an asset purchase destroys it. The first half is true; the second is not, and clause (iv) is why. Structure matters only at the edges: clause (iv) needs a business “acquired or continued by the employer”, so a buyer picking up equipment from a liquidation without continuing the business is not obviously inside it. See the share purchase agreement entry.

The tell

The tell is a column most termination models do not carry: hire date — not years of service, the actual date. Anyone hired before 1 January 1996 carries eligible room, fixed by that date and nothing else. Two employees with identical 30-year records can have $24,000 and nil between them, depending on which side of 1996 their first day fell.

The second tell is in the advice, not the data: any answer to a s.60(j.1) question reached by asking whether the parties dealt at arm’s length came from the wrong place.

Takeaways

• • Section 60(j.1) defines person related to the employer for itself, and clause (iv) includes any person whose business was acquired or continued by the employer. An arm’s-length asset buyer is related to the vendor for this paragraph.
• • The eligible amount is $2,000 per pre-1996 year plus $1,500 per pre-1989 year in which employer pension or DPSP contributions had not vested.
• • It turns on hire date, not length of service: a 28-year employee hired in 1998 has nil; a 35-year employee hired in 1991 has $10,000.
• • CRA’s administrative position is that a part-year counts as a full year and the transfer works regardless of RRSP room. Both are in the T4001 guide; the first glosses the statutory phrase, so cite the guide, not the Act.
• • This is not a share-versus-asset fork — both structures reach the same amount, so do not price a purchase-price adjustment around it.

Sources

• • Income Tax Act, R.S.C. 1985, c. 1 (5th Supp.), s.60(j.1) — transfer of retiring allowances: clause (ii)(A) ($2,000 per pre-1996 year), clause (ii)(B) ($1,500 per unvested pre-1989 year), and the closing definition of person related to the employer at clauses (iv) and (v). The deeming clause is the rule that decided this file.
• • Income Tax Act s.248(1) — the definition of retiring allowance. s.56(1)(a)(ii) — the income inclusion the deduction is measured against.
• • Canada Revenue Agency, Employers’ Guide — Payroll Deductions and Remittances (T4001) — cited as CRA’s administrative position, not as the rule: part-years counting as full years, vesting read from the plan’s own terms, the transfer working regardless of RRSP room, lump-sum withholding on amounts paid directly to the recipient, and code 66 on the T4. Where guide and Act are worded differently, the Act is quoted above for the rule.
• • Employment Standards Act, 2000, S.O. 2000, c. 41, s.9(1) — cited for the contrast only. It deems the seller’s service to be the buyer’s for the purposes of that Act, and has no application to s.60(j.1), which reaches the same place by its own route.
• • An unresolved point, stated rather than papered over. Where a business has passed through more than one owner, we could not locate a CRA interpretation applying clause (iv) or (v) to a multi-step chain of successions, and none is assumed above. CRA’s Income Tax Folio S2-F1-C2, Retiring Allowances is the natural place to look; it could not be fetched from this environment and is therefore neither quoted nor relied on.
• • Treadstone Law — is severance pay taxed the same as a retiring allowance? — the general treatment of termination payments. It does not deal with the successor-employer deeming in clause (iv), which is the point of this file.
• • Treadstone Law — severance pay taxation in Ontario — adjacent background on how a package is taxed on receipt; it does not compute the s.60(j.1) eligible portion.