Severance pay in Ontario is fully taxable, and how severance pay is taxed in Ontario depends on how your employer pays it out. A lump-sum package is treated by the Canada Revenue Agency as a “retiring allowance” and triggers flat withholding of 10, 20, or 30 percent at source.1Canada Revenue Agency. Lump-Sum Payments Salary continuance is taxed like a regular paycheque. In both cases, the real tax bill is settled when you file, using your combined federal and Ontario marginal rate against your total income for the year.
Withholding on a Lump-Sum Severance Payment
When severance arrives as a single payment, your employer must withhold income tax before you see the money. The CRA sets flat rates for lump-sum payments in provinces outside Quebec, tied to the size of the payment:1Canada Revenue Agency. Lump-Sum Payments
- Up to $5,000: 10 percent
- $5,001 to $15,000: 20 percent
- Over $15,000: 30 percent
The rate applies to the entire payment, not just the portion above each threshold. A $20,000 retiring allowance means 30 percent withheld on the full $20,000. These percentages cover both the federal and Ontario provincial portions of income tax.
The rates are blunt. They ignore your other income, your credits, and your actual marginal rate. Combined federal and Ontario marginal rates in 2026 range from roughly 20 percent on modest income to over 53 percent on income above $258,000. If your severance stacks on top of other earnings for the year and pushes you into a higher bracket, 30 percent withheld at source will not be enough and you will owe the difference at filing. If severance is your only significant income for the year, you will likely get a refund.
How Salary Continuance Is Taxed Differently
Some employers structure severance as salary continuance, keeping you on the regular payroll for an agreed period after your last working day. The CRA excludes salary continuance from the retiring allowance definition, so these payments are taxed as ordinary employment income using standard payroll tax tables instead of the flat lump-sum rates.2Canada Revenue Agency. Retiring Allowances
CPP contributions and EI premiums keep coming off each instalment, up to the annual maximums. Those deductions shrink each paycheque but continue to build pension credits and insurable hours through the transition.
The advantage of salary continuance is that withholding tracks your projected annual income more closely than a flat 30 percent would, because payroll spreads the income across pay periods and applies graduated rates. The trade-off: salary continuance generally cannot be transferred to an RRSP under the retiring allowance rules, because it is not a retiring allowance in the first place.
Transferring Severance to an RRSP to Reduce Tax
If your severance qualifies as a retiring allowance, you may be able to shelter part or all of it by transferring the money directly into a Registered Retirement Savings Plan. There are two routes.
The Eligible Portion for Pre-1996 Service
Employees with service before 1996 can transfer an “eligible portion” of a retiring allowance directly to an RRSP, a registered pension plan, or a pooled registered pension plan without using any of their regular RRSP contribution room.3Canada Revenue Agency. Transfer of a Retiring Allowance Paragraph 60(j.1) of the Income Tax Act sets the limits:4Justice Laws Website. Income Tax Act RSC 1985 c 1 (5th Supp) – Section 60
- $2,000 for each year or partial year of service before 1996
- An additional $1,500 for each year or partial year of service before 1989 during which no employer contributions to a pension plan or deferred profit sharing plan had vested in your name
Someone who worked for the same employer from 1985 to 2025, with no vested pension for the early years, could shelter $2,000 for each of the 11 years from 1985 through 1995 ($22,000), plus $1,500 for each of the four years from 1985 through 1988 ($6,000), for a total eligible transfer of $28,000. That amount sits on top of any regular RRSP room you already have.5Canada Revenue Agency. Transferring the Eligible Part of a Retiring Allowance
The Non-Eligible Portion
Any retiring allowance that does not qualify under the pre-1996 rules is the non-eligible portion. You can still contribute it to your RRSP, but only to the extent of your available contribution room. Your current room appears on your most recent Notice of Assessment. For 2026 the annual RRSP dollar limit is $33,810, though your personal room depends on your prior-year earned income and any unused room carried forward.
Why the Transfer Must Be Direct
If the employer sends the eligible portion directly to your RRSP or pension plan, no tax is withheld at source. The full gross amount lands in the sheltered account and starts compounding right away.1Canada Revenue Agency. Lump-Sum Payments If you take the money first and contribute it yourself, the employer must withhold the 10 to 30 percent, and you have to wait until you file to recover it as a refund. Coordinate with payroll before the final payment is cut. Once the cheque is issued net of withholding, the direct transfer opportunity is gone for that year.
Deducting Legal Fees You Paid to Get the Severance
Legal fees paid to negotiate or collect severance are deductible. You claim them on line 23200 (Other Deductions). The deduction in any given year is capped at the retiring allowance income you received that year minus any amount you transferred to an RRSP or registered pension plan.6Canada Revenue Agency. Line 23200 – Other Deductions Fees above the cap can be carried forward for up to seven years.
Plan around this. A large RRSP transfer shrinks your deductible legal fee room for that year. The deduction is not lost, but it will need to be spread across future tax years rather than claimed all at once.
ESA Termination Pay Is Not the Same as Severance Pay
Ontario’s Employment Standards Act creates two separate entitlements that people often lump together. Termination pay is compensation in lieu of the notice period your employer was required to give you. ESA severance pay is a separate entitlement tied to length of service, and not every employee qualifies.
To be eligible for ESA severance pay, you need at least five years of service with the employer, and the employer must either have a global payroll of $2.5 million or more, or have severed 50 or more employees within a six-month period due to a permanent closure of all or part of the business.7Ontario. Severance Pay – Your Guide to the Employment Standards Act If you do not meet both conditions, you may still receive termination pay or a negotiated package, but you have no statutory right to ESA severance.
For tax purposes, wages in lieu of notice are taxed as regular employment income, not as a retiring allowance. A lump-sum severance package that does qualify as a retiring allowance follows the flat withholding rates above. Many separation packages bundle both, so check the breakdown on your pay stub or separation agreement to see what is being withheld against which portion.
How Severance Affects Employment Insurance
Severance does not disqualify you from EI, but it usually delays when your benefits start. Service Canada allocates severance pay and other separation earnings across weeks starting from your last day of work, based on your normal weekly earnings.8Canada Revenue Agency. Employment Insurance and the Various Types of Earnings You receive no EI during the weeks covered by that allocation. Once those weeks run out you serve the standard one-week waiting period, and then benefits begin. The allocation also extends your benefit period by roughly the same number of weeks, so you do not lose total weeks of coverage.
A temporary exception applies. For EI claims or allocations that begin between March 30, 2025 and April 11, 2026, separation earnings including severance pay are not deducted from benefits at all.9Canada Revenue Agency. Temporary Employment Insurance Measures to Respond to Major Economic Conditions If your separation falls in that window, you could collect both your severance and EI without the usual delay. File your EI application as soon as possible after separation regardless, because processing takes time and the temporary measure has a defined end date.
What Actually Gets Settled at Tax Time
Your employer reports the retiring allowance on your T4 slip using code 66 for the eligible transfer portion and code 67 for non-eligible amounts.3Canada Revenue Agency. Transfer of a Retiring Allowance You report those amounts on line 13000 of your income tax and benefit return.5Canada Revenue Agency. Transferring the Eligible Part of a Retiring Allowance
The CRA then applies your combined federal and Ontario marginal rate to your total income for the year. If the flat withholding at source was more than your actual rate, you get a refund. If it was not enough, you owe. A shortfall is most common when you land a new job quickly after severance, because the lump-sum withholding rate assumed the severance was your primary income when it was actually stacked on top of new employment earnings.
If you can see that coming, make voluntary tax instalments or increase the withholding on your new job’s payroll during the year. A surprise five-figure balance owing in April is one of the more unpleasant financial outcomes of a job loss, and it is entirely preventable.