Canadian Employment Law Today

2 | April 22, 2020 April 22, 2020 Ask an Expert Have a question for our experts? Email jeffrey.smith@keymedia.com BRIAN JOHNSTON, STEWART MCKELVEY, HALIFAX with Brian Johnston Recovering overpayment from a payroll error Question: If a payroll error led to an overpayment to an employee, what are the best ways for the employer to recoup the amount overpaid? Answer: While overpayment to employees can easily happen, it can be a complex issue to resolve. Overpayment occurs most commonly where the employee is paid for work they did not perform or where the employee is mis- takenly overpaid due to a clerical or adminis- trative error. The methods available to an em- ployer to recoup the overpayment depend, to an extent, on the underlying cause. It is also important to recognize that the amount of the repayment must be determined, as tax consequences mean the amount may vary depending on the timing of events. Navigating overpayment recovery options Consider an employee who requests and is approved for advance vacation pay before they have actually earned it. After receiving the advance pay, the employee resigns. The employer has now paid the employee with respect to work that they will not ultimately perform and is left to attempt to recover the balance of the overpayment. To ease recovery, the employer would bene- fit from pre-emptively drafting and having the employee sign an agreement that the employ- er reserves the right to recover any unearned vacation pay upon termination. Where no agreement or policy is in place, the employer may attempt to negotiate for repayment or unilaterally deduct from monies otherwise payable and risk a complaint or lawsuit or sue (which is likely not productive). Where there is a mistaken overpayment, an employer is sometimes entitled to recoup an overpayment by making deductions from future wages payable, but it must abide by the specific requirements applicable to each province and territory. Unilateral deduc- tion of an employee's wages is not permis- sible in most jurisdictions — most often, the employer must have the employee's written consent. It is good practice to have an em- ployee's written permission prior to making deductions in any case. It is always good practice to start by at- tempting to negotiate terms of repayment directly with the employee or former em- ployee. A cordial letter that clearly sets out the details of the overpayment, the reasons it occurred and possible repayment schedule (especially if the amount is large) is a good place to begin. The fact that the employer has initially given the employee a chance to pay back the amount may help if the employee refuses and the employer later takes legal ac- tion. The specific rules pertaining to deductions made from an employee's wages for reason of overpayment differ among jurisdictions. Written authorization is required in all ju- risdictions (either by statute or common law) except for Newfoundland and Labrador and Saskatchewan. In Saskatchewan, the em- ployer may deduct an overpayment without written authorization, but only if the correc- tion is made in the next pay period. In New- foundland and Labrador, the employer is explicitly authorized to make deductions for the overpayment without written employee consent. More specific rules pertaining to deduc- tion vary from province to province. For example, Nova Scotia, Quebec, Ontario and Alberta all require written authoriza- tion specifying the amount of repayment in addition to consent. In Manitoba, the em- ployer must obtain the employee's consent and make the correction as soon as possible, or, alternatively, (if the employee does not agree to the deduction), it may be entitled to deduct an amount equal to what would be allowed if the employer had a garnishment order for the overpayment. The bottom line is: Before attempting to recoup any overpayments through wage de- ductions, an employer must carefully review the relevant employment standards legisla- tion and abide by the rules of that jurisdic- tion pertaining to overpayments. If the employee refuses to provide writ- ten authorization for payroll deductions in a province where authorization is required, the employer's only remedy would be to bring a claim against the employee. If the employer decides to allow the over- payment and forgive the debt, the employer should add the amount to the employee's in- come in the year that the debt was forgiven. The amount the employer may recover Where an employer is permitted under law or by authorization to deduct the over- payment from the employee's wages, the amount of the repayment depends on the circumstances. Where an employee repays the overpay- ment, the overpayment does not form part of the employee's salary for the year — this means that if the error is noticed and the amount is repaid within the same tax year, the employee must only repay the net amount of the salary overpayment (gross pay less deductions for income tax, CPP and employment insurance), and the employer is able to reduce the deductions made on the employee's subsequent paychecks to com- pensate. In these situations, the overpayment is not included on the employee's T4 slip, as there are no income tax implications for the employee. However, it becomes more complicated when the overpayment is not repaid until the following calendar year. In those cases, the employee must repay the gross amount of the overpayment to the employer, includ- ing the income tax, CPP contributions and EI premiums that were deducted, and they would then need to apply to the CR A for a refund of these amounts. This complication may soon become an is- sue of the past. In January 2019, the Depart- ment of Finance Canada released draft legisla- tive proposals to the Income Tax Act, Canada Pension Plan Act and Employment Insurance Act that would allow employers who have made overpayments to be directly reimbursed by the CRA for these salary deductions. This means that employees will only have to repay the net amount of the deduction regardless of the timing, and the employer can sort out the rest with the CRA. These draft proposals have not yet become law. An employer may not adjust the T4, pay- roll records or total employment income by the amount of the repayment — it should al- ways include the amount of the salary over- payment and any deductions made on the employee's T4 slip. If the employee has re- paid the overpayment, an employer may give the employee a letter confirming the year that the overpayment was made, the year the repayment was made and the amounts. With that letter, the employee may claim a deduction on their income tax for the year the amount was repaid — at least until such time as the proposed legislative changes may come into effect. Brian Johnston, Q.C., is a partner with Stew- art McKelvey in Halifax. He can be reached at (902) 420-3374 or bjohnston@stewartmck- elvey.com.

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