What’s At Stake
The federal government’s $1 billion Phoenix payroll system SNAFU led to the inadvertent overpayment of countless government employees. The silver lining was that the fiasco focused attention on the inequity of current CRA rules and led to reforms that take effect on January 1, 2020.
The Old Salary Overpayment Rules
The Old Employee Recovery Rules
The old rules placed the onus of recovery squarely on the shoulders of the victims, i.e., the employees who received the inadvertent overpayments, by requiring them to repay the gross overpayment amounts and then recover the excess between the gross and net overpayment later as a tax refund after refiling their income tax return for the year.
The Old Employer T4 Reporting Rules
Employer reporting of such amounts depended on when during the year the error was detected. If such errors were caught during the tax year, i.e., before the last remittance to the CRA for that tax year, the employer could simply reverse or void the payroll transactions concerned and reduce its next CRA remittance as required. However, if errors were caught after this last remittance, T4s had to be prepared (or amended) to show:
- The net income remaining after removing any overpayments; and
- The actual income tax, CPP and EI employee source deductions made and remitted during the year.
Where these bullets applied, if the employee were to refund to the employer only the net received, the employer would be out of pocket until the difference was refunded by the CRA. There was no provision for CRA to refund such remittances after they’d been made.
The New Salary Overpayment Rules
The New Employee Recovery Rules
Starting Jan. 1, 2020, employees who are overpaid must repay their employers only the net overpayment amount and authorize the CRA to directly refund the excess income tax, CPP and EI withheld to the employer. Employees must file T1 returns excluding the gross amount of any overpayments, even if they haven’t received amended T4s from the employer. The employer can then recover any income tax, CPP or EI source deduction remittances related to the overpayments from the CRA via tax re-filings. Employers can elect to have an employee repay the net amount of the salary overpayment if all of the following apply:
- The overpayment was a result of a clerical, administrative, or system error;
- Within 3 years after the end of the year the employer overpaid the salary: (i) the employer elects in a prescribed manner to have this option apply; (ii) the employee has repaid or arranged to repay the net amount of the salary overpayment to the employer;
- The employer hasn’t already issued a T4 slip with the employee’s correct earnings, i.e., with the salary overpayment removed; and
- The employer’s business is actively operating.
The New Employer T4 Reporting Rules
T4 reporting depends on when the employee repays or arranges to repay you.
Before Original T4 Issued
If the employee repays or arranges to repay you the salary overpayment before it issues the original T4 slip, do not include the salary overpayment or the income tax and EI premiums withheld on the overpayment on the employee’s T4 slip. You may exclude CPP contributions from the original T4 slip in certain situations. You can’t exclude the EI premiums withheld on a salary overpayment from an employee’s T4 slip if the employee’s corrected earnings are at or above the maximum annual insurable earnings.
After Original T4 Issued
If you already issued the original T4 slip for the year you made the salary overpayment, you must:
- Prepare an amended T4 slip for that year;
- Reduce the total employment income in box 14 by the salary overpayment amount;
- Reduce box 22 by any income tax deducted on the salary overpayment;
- If the employee’s annual earnings were below the maximum annual insurable earnings, reduce box 18 by the amount of EI premiums deducted on the salary overpayment;
- If the employee’s earnings were above the maximum annual insurable earnings but are below the maximum insurable earnings after you correct the salary overpayment, reduce box 18 by the amount of EI premiums that corresponds with the portion of the salary overpayment that is below the maximum annual insurable earnings.
Do not adjust the amount of CPP contributions deducted in box 16.
You may also have to amend the EI insurable earnings in box 24 and CPP/QPP pensionable earnings in box 26 to agree with the reduced employment income that you will report in box 14.
After CRA receives and processes the amended T4, it will credit the income tax and EI premiums remitted on the salary overpayment made in error (including your share of EI premiums) to your payroll program account. You can then reduce the next payroll remittance you send to the CRA by the credited amount. The credited amount will appear on your PD7A statement of account. Note: You can’t exclude the EI premiums withheld on a salary overpayment from an employee’s T4 slip if the employee’s corrected earnings are above the maximum annual insurable earnings.
Caveat: New Rules Don’t Apply to Overpayments Caused by Employment Status Changes
The new rules above don’t apply to all situations the 2018 RC4120 guide describes as “overpayments,” including overpayments deemed employment income at the time of payment to which the employee ultimately wasn’t entitled due to unforeseen changes in his/her employment status. Examples:
- Maternity leave top-up amounts paid to an employee who doesn’t return to work from maternity leave as required under the terms of her collective agreement;
- Vacation leave credits advanced to an employee who quits working for you before earning the credits; and
- A signing bonus paid to an employee who ends up not working for the time agreed to in his employment contract.