Key Takeaways
- 1.The employer withholds 30% ($25,500) on the full $85K lump sum — this is a flat statutory rate, not your actual tax bill.
- 2.Pre-1996 service qualifies for a retiring allowance RRSP transfer at $2,000/year (plus $1,500/year for pre-1989 non-vested pension service) — this does not use your regular RRSP room.
- 3.Any remaining severance can be sheltered using regular RRSP contribution room — up to your available limit on your Notice of Assessment.
- 4.With $40,000 total RRSP absorption (retiring allowance + regular room), taxable severance drops to $45,000, producing actual tax of roughly $8,600–$12,800 depending on other income.
- 5.The over-withholding refund at filing can exceed $12,000–$17,000 — cash you recover in April by filing early.
The Setup: $85K Severance After a Layoff in Ontario
An Ontario employee is laid off after 20 years of service. Their employer pays an $85,000 lump-sum severance — a combination of termination pay and a retiring allowance recognizing long service. The employee started in 1993, giving them 3 years of pre-1996 service. They have no employer pension plan that vested for those early years. Their most recent CRA Notice of Assessment shows $28,000 of unused RRSP contribution room.
The question: how much of this $85K can be sheltered from tax, what is the true tax bill on the rest, and how much of the employer's withholding comes back as a refund? For a broader look at severance calculations for an Ontario employee on an $85K salary, see our severance package tax calculator for Ontario employees.
Step 1: Employer Withholding — The 30% Lump-Sum Rate
Under CRA rules, employers must withhold tax on lump-sum payments at prescribed rates based on the payment amount. For payments over $15,000 in any province except Quebec, the combined federal/provincial withholding rate is 30%.
Lump-sum withholding rates (non-Quebec):
$0 – $5,000: 10%
$5,001 – $15,000: 20%
Over $15,000: 30%
On $85,000 severance:
Withholding: $85,000 × 30% = $25,500
Cash received: $85,000 − $25,500 = $59,500
The 30% rate is a blunt instrument. It doesn't account for your RRSP deductions, other credits, or the fact that you may have little other income that year. For most laid-off employees who shelter a portion in an RRSP, the actual tax rate on the remaining severance is well below 30%. The difference comes back as a refund at filing.
Step 2: The Retiring Allowance RRSP Transfer (Pre-1996 Service)
The Income Tax Act provides a special RRSP transfer for retiring allowances earned through pre-1996 service. This transfer does not consume your regular RRSP contribution room — it is an additional, separate allocation.
Retiring allowance RRSP transfer limits:
Pre-1996 service: $2,000 per year of service
Pre-1989 service (no vested pension): additional $1,500 per year
Our scenario:
Years of pre-1996 service: 3 (1993, 1994, 1995)
Years of pre-1989 service: 0
No vested employer pension for those years
Eligible retiring allowance transfer: 3 × $2,000 = $6,000
Additional pre-1989 amount: 3 × $1,500 = $4,500
Total retiring allowance RRSP transfer: $10,500
Wait — the employee started in 1993, so all 3 pre-1996 years are also pre-1996 but post-1988. The $1,500 bonus applies only to pre-1989 years where employer pension contributions did not vest. Since the employee started in 1993, they have zero pre-1989 years. The eligible transfer is strictly $6,000.
Corrected retiring allowance RRSP transfer:
Pre-1996 service (1993–1995): 3 years × $2,000 = $6,000
Pre-1989 bonus: $0 (no service before 1989)
Total eligible: $6,000
This $6,000 can be transferred directly to the employee's RRSP without any withholding — and without reducing their $28,000 of regular RRSP room. The key is requesting the employer make a direct transfer to the RRSP, which avoids the 30% withholding on that portion entirely.
Step 3: Regular RRSP Room — Sheltering More of the Severance
Beyond the retiring allowance transfer, the employee can use their regular RRSP contribution room to shelter additional severance. Their Notice of Assessment shows $28,000 of unused room.
RRSP absorption breakdown:
Retiring allowance transfer (separate room): $6,000
Regular RRSP contribution: $28,000
Total RRSP absorption: $34,000
Severance remaining as taxable income:
$85,000 − $34,000 = $51,000
The employee should instruct their employer to transfer $6,000 as a retiring allowance direct transfer and $28,000 as a regular RRSP contribution (or contribute the $28,000 personally and claim the deduction at filing). Either way, $34,000 of the $85K severance produces zero current tax. For more on how RRSP contributions interact with Ontario tax brackets, see our year-end RRSP top-up calculator for Ontario employees.
Step 4: Actual Tax on the $51,000 Taxable Portion
Assuming no other employment income in the year of layoff (worst case: laid off in January and no new job found), the $51,000 is the employee's entire taxable income. Here is the federal and Ontario tax calculation:
Federal tax on $51,000:
$57,375 bracket at 15% (only $51,000 falls here)
$51,000 × 15% = $7,650
Basic personal amount credit (2025): −$2,499
Net federal tax: ~$5,151
Ontario tax on $51,000:
$51,446 at 5.05% (only $51,000 falls in this bracket)
$51,000 × 5.05% = $2,576
Ontario personal amount credit: −$572
Net Ontario tax: ~$2,004
Total tax on $51,000: ~$7,155
Effective rate: ~14.0%
Compare that 14% effective rate to the 30% withholding rate. The employer withheld $25,500, but the actual tax liability on the $51,000 taxable portion is only $7,155. The difference — approximately $18,345 — comes back as a refund when you file your T1 return. For a broader look at how Ontario brackets work at different income levels, see our Ontario income tax take-home calculator.
Scenario 2: Laid Off Mid-Year with $45K of Prior Employment Income
Most layoffs don't happen on January 1st. If the employee earned $45,000 in salary before being laid off in June, their total income for the year is $45,000 + $51,000 taxable severance = $96,000.
Total taxable income: $96,000
(salary $45,000 + taxable severance $51,000)
Federal tax on $96,000:
$57,375 at 15% = $8,606
$38,625 at 20.5% = $7,918
Federal tax before credits: $16,524
Basic personal amount credit: −$2,499
Net federal tax: ~$14,025
Ontario tax on $96,000:
$51,446 at 5.05% = $2,598
$44,554 at 9.15% = $4,077
Ontario tax before credits: $6,675
Ontario personal amount credit: −$572
Net Ontario tax: ~$6,103
Total tax on $96,000: ~$20,128
Tax already withheld from salary: ~$9,200 (estimated)
Tax withheld from severance: $25,500
Total withheld: ~$34,700
Refund at filing: ~$34,700 − $20,128 = ~$14,572
Even with $45K of prior salary, the employee still receives a substantial refund because the 30% flat withholding on the severance overshoots the actual marginal tax. The RRSP deduction of $34,000 reduced what would have been $130,000 of total income down to $96,000 — keeping the employee out of the higher brackets entirely.
With vs. Without RRSP: The Net Cash Comparison
Here is the side-by-side comparison for the mid-year layoff scenario ($45K prior salary):
| Item | With RRSP | No RRSP |
|---|---|---|
| Severance received | $85,000 | $85,000 |
| Retiring allowance RRSP transfer | $6,000 | $0 |
| Regular RRSP contribution | $28,000 | $0 |
| Taxable severance income | $51,000 | $85,000 |
| Total taxable income (with salary) | $96,000 | $130,000 |
| Total tax on all income | ~$20,128 | ~$30,450 |
| Tax saved by RRSP | ~$10,322 | — |
| Cash in hand (after tax, after RRSP) | $30,872 | $54,550 |
| Cash + RRSP (total wealth) | $64,872 | $54,550 |
“Cash in hand” is after-tax cash excluding RRSP balances. “Cash + RRSP” is total wealth including registered savings. The RRSP route produces $10,322 more in total wealth but less immediate liquidity. RRSP withdrawals in a lower-income future year can further reduce the lifetime tax burden.
The trade-off is clear: using the RRSP produces $10,322 more total wealth but ties up $34,000 in registered savings. If you need every dollar for living expenses during a job search, the RRSP route may not be practical. But if you can absorb the reduced cash flow, the tax savings are significant — and the RRSP funds can be withdrawn later in a year when your income is lower, at an even lower tax rate. For context on how RRSP and TFSA compare for Ontario residents, see our RRSP vs. TFSA calculator for Ontario.
Direct Transfer vs. Contribute-and-Deduct: Cash Flow Implications
There are two ways to get severance into an RRSP, and the cash flow difference is substantial:
Option A: Direct Transfer (Recommended)
Ask the employer to transfer the retiring allowance ($6,000) and regular RRSP amount ($28,000) directly to your RRSP before cutting the cheque. Only the remaining $51,000 hits payroll — and only that $51,000 is subject to the 30% withholding.
Direct transfer cash flow:
Severance: $85,000
Direct to RRSP: −$34,000
Taxable cash portion: $51,000
Withholding on cash (30%): −$15,300
Immediate cash received: $35,700
Refund at filing: ~$8,145
Total cash after filing: ~$43,845
Option B: Receive Everything, Contribute Personally
The employer withholds 30% on the full $85,000 and you receive $59,500. You then contribute $28,000 to your RRSP from cash on hand (the $6,000 retiring allowance transfer must still go direct).
Personal contribution cash flow:
Severance: $85,000
Retiring allowance direct transfer: −$6,000
Withholding on $79,000 (30%): −$23,700
Cash received: $55,300
Personal RRSP contribution: −$28,000
Immediate cash after RRSP: $27,300
Refund at filing: ~$16,545
Total cash after filing: ~$43,845
The total after filing is the same, but Option A gives you $8,400 more cash upfront. During a job search, that immediate liquidity matters. Always request the direct transfer when possible.
What If You Have No Pre-1996 Service?
If you started working after 1995 — as most current employees under age 50 did — the retiring allowance RRSP transfer is not available. Your only RRSP shelter is your regular contribution room.
No pre-1996 service, $28,000 RRSP room:
Severance: $85,000
RRSP transfer: $28,000
Taxable: $57,000
Additional tax vs. the $51,000 scenario:
$6,000 extra taxable income × ~20% marginal rate = ~$1,200 more tax
The $6,000 retiring allowance transfer saved approximately $1,200 in tax in our scenario. It is modest but entirely free — it costs nothing to claim it if you have the qualifying service years.
The Timing Factor: Which Tax Year Does the Severance Fall In?
Severance is taxed in the year it is received. If you are laid off in December and the severance is paid in January, it falls into the following tax year. This matters because:
- Year of layoff: You already have employment income from that year, pushing you into higher brackets.
- Following year: If you are unemployed, the severance may be your only income — taxed at the lowest brackets.
If your employer offers flexibility on the payment date, receiving the severance in a year with no other income can reduce the tax bill by $3,000–$8,000 on an $85K payout. This is one of the simplest and most overlooked severance tax planning strategies. For related retirement income timing considerations, see our CPP timing break-even calculator for Ontario retirees.
EI Interaction: Does Severance Delay Your Benefits?
Employment Insurance benefits and severance pay interact in ways that catch many employees off guard. Service Canada allocates severance over the period it represents. If your $85K severance covers roughly 20 months of service at $4,250/month, EI may not begin until that allocation period ends.
However, the allocation rules differ between termination pay (pay in lieu of notice) and retiring allowances (long-service recognition). Termination pay is typically allocated and delays EI; retiring allowances may not. If your severance package includes both components, having them clearly separated on your Record of Employment (ROE) can affect when EI kicks in. Consult Service Canada or an employment lawyer before assuming your EI start date.
Summary: Net Cash on an $85K Ontario Severance
| Scenario | Taxable Income | Tax Owed | Net Cash + RRSP |
|---|---|---|---|
| No RRSP, no other income | $85,000 | ~$16,800 | ~$68,200 |
| Full RRSP ($34K), no other income | $51,000 | ~$7,155 | ~$77,845 |
| No RRSP, $45K prior salary | $130,000 | ~$30,450 | ~$54,550 |
| Full RRSP ($34K), $45K prior salary | $96,000 | ~$20,128 | ~$64,872 |
“Net Cash + RRSP” includes both liquid cash and the RRSP balance. Tax figures assume 2025 federal and Ontario rates with basic personal amount credits only. Actual results vary with additional income, credits, and deductions.
Important Disclaimer
This article provides general information about the tax treatment of severance payments in Ontario and is not legal, financial, or tax advice. All calculations are simplified illustrations using 2025 federal and Ontario tax brackets, and assume basic personal amount credits only. The retiring allowance RRSP transfer rules apply only to service before 1996, and eligibility depends on the specific terms of your severance agreement and employment history. Lump-sum withholding rates are set by CRA regulation and may differ for Quebec residents. RRSP contribution room is specific to each individual and confirmed on your Notice of Assessment. Severance classification (termination pay vs. retiring allowance) affects EI eligibility and tax treatment. Consult a qualified tax professional and employment lawyer before making decisions about severance structuring and RRSP contributions.