Severance Pay vs. Termination Pay: Understanding the Differences

It is crucial for employers to know and understand different HR terminologies that are used in relation to employee rights. As an employer, you must ensure that you treat your employees fairly and in accordance with your province’s employment standards.  

Termination and severance pay is one area of common confusion for many employers and employees. Though often used interchangeably, termination pay and severance pay are defined differently in Ontario by the Employment Standards Act (ESA) and the Canada Labour Code (CLC) for federally regulated employees. Severance pay is only applicable to these two jurisdictions; hence, the distinction is especially important. 

What is termination in Ontario? 

Termination occurs when an employment relationship ends. A worker’s employment can be terminated for several reasons, including:  

• The worker resigns due to constructive dismissal - which happens when an employer shows they no longer want to follow the employment contract, even though they haven’t formally dismissed the worker. This takes place when the employer breaks a key term of the contract, or if their actions generally indicate they don’t intend to be bound by the contract. 
• When the employer dismisses the employee or is unable to continue employing the worker (e.g., due to bankruptcy or insolvency) 
• When the employee is laid-off for a period beyond what is permitted by the ESA (i.e., beyond 13 weeks within a 20-week period or beyond 35 weeks within a 52-week period) 

 Alternate terms that are used to connote employee terminations include, “let go,” “discharged,” “fired,” or “permanently laid off.”  

When is a person’s employment severed? 

According to the ESA, a person’s employment is considered severed when:  

• An employer dismisses a worker, or the employer is unable to continue employing the worker  
• The employer “constructively” dismisses the employee and, as a response, the employee resigns from their employment within a reasonable period 
• An employee has been laid off for a period beyond what the law permits (e.g., beyond 35 weeks within a period of 52 consecutive weeks) 
• The employer laid off the employee because of a permanent discontinuance of all the employer’s business at an establishment 
• The employer gives the employee notice of termination under termination or mass termination requirements, and following this, the employee gives written resignation notice to take effect during the original statutory termination notice period.  

Is termination pay the same as severance pay? 

Typically, once an employer terminates an employee, the employee is entitled to notice of termination. If the employer prefers to have the employee not work throughout their notice period, they can choose to provide payment in lieu of termination notice (also referred to as termination pay). If the employee works through their notice period, then termination pay is not applicable.  

On the other hand, severance pay is reserved for employees in Ontario or those who are federally regulated. The eligibility requirements for severance pay vary between these Canadian jurisdictions.  

What are the rules for severance pay in Ontario? 

An employee qualifies for severance pay if their employment has been severed and:  

• They have worked for the employer for five years or more (this includes all the time spent employed by the employer, whether on a continuous basis or not) 
• The employer has a global payroll of at least $2.5 million  
• The employer has severed the employment of 50 or more employees in a six-month period due to the permanent closure of all or part of the business 

An employee who is entitled to severance pay must be paid seven days after the employment has been severed, or on what would have been the employee’s next regular payday – whichever date is later.  

Severance pay may also be paid in installments. However, an electronic or written agreement must be made with the employee or the Director of Employment Standards at the Ministry of Labour (MOL). The payment plan cannot exceed three years, and if the employer misses a scheduled payment, the employee’s entire severance becomes due immediately.  

What are the rules for severance pay in the Federal Jurisdiction? 

In the Federal Jurisdiction, the Canada Labour Code prescribes that an employee will be eligible for severance pay if they have:  

• Completed at least 12 consecutive months of continuous employment with the same employer, and  
• The employment was severed due to the employer’s termination for reasons other than just cause 

Severance pay must be paid out within seven (7) days after the employee’s employment is terminated, or on the employee’s next regular payday.  

How to calculate severance pay? 

As an employer, it is your responsibility to ensure that you calculate your employee’s severance pay correctly. Failure to do so may result in a wrongful dismissal claim which could cost your business thousands of dollars.  

Calculating severance pay for Ontario 

In Ontario, the Employment Standards Act (ESA) provides a formula for calculating severance pay. Employers must determine the employee’s regular wages for a regular work week, which should be the amount an employee earns in a typical week, excluding overtime. Regular weekly wages should then be multiplied by the sum of the number of completed years of employment and the number of completed months of employment divided by 12 for any partial year.  

Calculating severance pay for federally regulated employees 

In the Federal jurisdiction, severance pay is calculated as two day’s pay multiplied by the employer’s regular rate of wages for each full year of employment, with a minimum of five days’ pay, multiplied by the years of employment.  

Are there exemptions from severance pay?  

There are some cases where employees are not entitled to severance pay. These exemptions can sometimes be complex and may vary on a case-by-case basis. If you are unsure of whether or not your employee is entitled to severance pay, speak to one of our HR experts for free advice.  

Do you need help understanding severance pay?  

Our advisors can help you understand severance and clarify any other HR concerns you may have. Our experts can also help you update and review employment contracts, as well as assist with any other HR or health and safety issues that may arise. Give us a call at 1 (833) 247-3652 to learn how our services can benefit your business.