BY Sheryl Smolkin, lawyer and journalist | March 19, 2013
Your clients probably use bonuses as a way of rewarding key contributors and senior executives in their small business. But these can end up costing employers much more than the initial dollar amount if retirement plan documents are not clear about what counts as pensionable earnings whether the plan is a defined benefit pension plan, a defined contribution plan or a group registered retirement savings plan.
In a recent Ontario Superior Court case the judge ruled that retention bonuses of $425,000 paid to Gregory Shaw as a result of his employment contract with the Ontario Hospital Association (OHA) did not form part of pensionable earnings under the Healthcare of Ontario Pension Plan (HOOPP).
HOOPP is a multi-employer pension plan for employees of most hospitals across Ontario. It is a private, independently-governed pension trust, settled jointly by the OHA and four unions that represent employees.
While this case is obviously not a small group retirement plan, it does include lessons for smaller plans and their advisors.
Shaw was 62 years old in November 2011. Over the course of his career, he worked with four Ontario hospitals and the OHA as a senior HR executive. In 2004 the terms of his employment with the OHA were formalized in an employment contract for an initial period of five years, automatically renewable for successive one year terms subject to notice by Shaw or the OHA.
The agreement said that whether Shaw resigned from the OHA or he was terminated before the end of the five year term, he was entitled to the greater of the balance owing on the contract or 24 months of salary and benefits.
In the summer of 2008, the CEO of the OHA approached Shaw with a request to amend the employment agreement to remove the termination provisions which the OHA viewed as an “incentive to leave” and instead, give him an “incentive to stay.”
After reviewing actuarial calculations, Shaw agreed to employment contract amendments which eliminated the termination provisions and substituted retention bonuses of $100,000 on November 1, 2009, $150,000 on October 31, 2010 and $225,000 on October 21, 2011, provided that he had not resigned from his position with OHA. If he was terminated without cause the full amount of the retention bonuses became payable.
The amended agreement also increased the term of Shaw’s employment to seven years so that it commenced on November 29, 2004 and ended on October 31, 201l. On May 18, 2010, the OHA terminated Shaw’s employment without cause.
In November 2009 Shaw received his first retention bonus of $100,000 from the OHA. About $36,400 was withheld for taxes, and $9,600 was deducted as Shaw’s required contribution to HOOPP.
Before the OHA deducted and remitted Shaw’s pension contribution, an OHA employee telephoned HOOPP and customer service representative Kristy Thacker confirmed the retention bonus was considered to be pensionable earnings. That conversation was recorded.
Nevertheless, HOOPP maintained that the retention bonuses under Shaw’s amended employment agreement could not be taken into account in calculating his income for purposes of his pension.
At the hearing, evidence was led that the pension plan’s definition of pensionable earnings is “wages, salary and other amounts….that form a regular and integral part of the member’s remuneration.”
Furthermore, the HOOPP Administration Manual specified that pensionable earnings include “a bonus that represents a fundamental and recurring component of an employer’s long-term compensation program.” In contrast, the manual said “a one-off or ad hoc bonus is not treated as pensionable earnings, even if the employee receives it in more than one year.”
Actuarial calculations filed at trial revealed that if the bonus payments of $475,000 were considered to be pensionable, Shaw would contribute to HOOPP 9.6% or $45,600 in total. However, these contributions would give rise to a pension benefit with a present value of $1.275 million, or nearly 28 times the value of his contributions.
Not regular and integral
Justice Frank Newbould ruled that because the plan was subject to a trust, it had to be interpreted in accordance with equitable principles and in light of its fundamental purpose. If the retention bonus formed part of pensionable earnings, he said HOOP would have to absorb the additional cost of the enhanced pension, to the possible detriment of other plan members.
Therefore he decided that the three bonus payments did not form “a regular and integral part of Shaw’s remuneration” and dismissed Shaw’s application.
What this means for plan employee advisors and plan sponsors
This case involved a large multi-employer pension plan, but a similar situation could arise if a small organization entered into an employment agreement with an executive or other employee.
It is important that in all cases both parties to the employment agreement have access to all the relevant documentation when they review the document promises are not made that are inconsistent with provisions of the company’s retirement savings plan or other benefit program.
In this case Shaw had initially been promised two years of salary plus benefits if his contract was terminated. He had every reason to believe that when he agreed to amendment of the employment contract that his retention bonuses would also be pensionable income. By way of further confirmation, pension contributions were deducted from the 2009 installment of his bonus and a HOOPP customer service rep confirmed the bonuses were pensionable earnings.
An appeal by Shaw heard February 15, 2013 was dismissed by the Court of Appeal. He may have a further remedy against his former employer the Ontario hospital Association.