Is disability insurance taxable in Canada?
Whether disability benefits are taxed in Canada depends on who paid the premiums. Benefits from a policy you paid for yourself are tax free. Benefits from a group plan your employer contributed to are taxable, less the premiums you paid into that plan. The rule comes from the Income Tax Act, and it applies to long-term and short-term disability alike. Government disability benefits each have their own rules, set out further down. How disability coverage works is in our guide to disability insurance in Canada.
The rules at a glance
| Your coverage | Premiums deductible? | Benefits taxed? |
|---|---|---|
| A policy you bought and pay for yourself | No | No |
| A group plan paid entirely by employees | No | No |
| A group plan your employer pays some or all of | No deduction for you | Yes, less what you contributed |
| An individual policy your employer pays for, with the premiums added to your income | No | No |
| Business overhead expense insurance | Generally yes | Yes, as business income |
Group plans through your employer
The tax rule is in paragraph 6(1)(f) of the Income Tax Act. If you receive periodic benefits from a sickness, accident, disability or income maintenance plan that your employer contributed to, the benefits are taxable employment income. You can subtract the contributions you made to the same plan yourself: those made since the last year you were taxed on benefits from it, or since 1968 if you never were. Contributions to a previous employer’s plan don’t count. The Canada Revenue Agency calls these plans wage-loss replacement plans.
Your employer’s share of the premium is generally not a taxable benefit to you while you are working. The trade-off comes later: because your employer helped pay for the coverage, the benefits are taxed if you claim.
Short-term and long-term disability are normally separate plans, so one can be taxable and the other tax free. Check each part of your benefits booklet, which may say whether the benefits are taxable, or ask your plan administrator.
When a group plan is tax free
A group plan’s benefits are tax free only if it is an employee-pay-all plan. The Canada Revenue Agency’s long-standing conditions are strict:
- Employees must pay the whole premium. A plan that is mostly employee-paid is not enough.
- One employer contribution taints the plan for everyone. If the employer pays any part of the premium for some employees, the benefits are taxable for all of them.
- It can’t be fixed after the fact. An employer can pay the premiums and add them to employees’ income as a taxable benefit, which keeps the plan employee-pay-all, but only if the plan provided for that when the premiums were paid, not by adjusting the amounts at year end.
- Switching doesn’t help existing claims. If an employer changes to an employee-pay-all plan, benefits for people already on claim stay taxable.
Is tax withheld?
Yes, when the benefits are taxable. The Canada Revenue Agency requires payers to withhold income tax from all wage-loss replacement plan benefits. The benefits are usually reported on a T4A slip and go on line 10400 of your return. The tax withheld may not match your final bill, so check when you file. Tax-free benefits have nothing withheld and nothing to report.
A policy you own
If you buy an individual disability policy and pay the premiums with your own after-tax money, the benefits are tax free. The premiums are a personal expense and are not deductible, and that is true for the self-employed as well.
If your employer pays the premium on an individual policy that is not part of a group plan, the premium is a taxable benefit added to your income each year, and the benefits you later receive are tax free.
Business owners and the self-employed
- Personal disability insurance. Premiums are not deductible and benefits are tax free, as above.
- Business overhead expense insurance. This pays fixed business costs, such as rent and staff wages, while you are disabled. The premiums are generally deductible as a business expense and the benefits are taxable as business income.
- A policy paid by your corporation. The result depends on whether the coverage is a group plan, whether you receive it as an employee or as a shareholder, and who owns the policy. A plan that covers only the owner is not a group plan. For that kind of policy, in the Canada Revenue Agency’s published views, premiums paid for you as an employee are a taxable benefit that the corporation can normally deduct, while premiums paid for you as a shareholder are taxable to you and not deductible. Either way the benefits are then tax free. If you are covered under a genuine group plan with other employees that the corporation pays for, the benefits are taxable like any employer-paid group plan. Ask your accountant before setting this up.
Back pay after a delayed claim
A long-term disability claim can be approved months or even years after the disability began, with the back pay arriving as a lump sum. If the taxable part that relates to earlier years adds up to $3,000 or more, not counting interest, the payer issues form T1198. You still report the whole amount in the year you receive it. The Canada Revenue Agency then compares the normal tax with the tax you would have paid had each part been received in its own year, plus notional interest on the older years, and charges the lower amount. Only years in which you lived in Canada for the whole year qualify.
Retroactive Canada Pension Plan or Quebec Pension Plan disability payments have a similar rule. When $300 or more relates to earlier years, you still report the full amount in the year you receive it, but the Canada Revenue Agency calculates the tax on those parts as if you had received them in those years, if that is better for you. Attach the letter showing the breakdown unless your T4A(P) slip shows it.
If you have to repay your long-term disability insurer after a retroactive Canada Pension Plan or Quebec Pension Plan award, ask the insurer how it will adjust your tax slip, and get tax advice.
Government disability benefits
| Benefit | Taxable? | Notes |
|---|---|---|
| Employment Insurance sickness benefits | Yes | Reported on line 11900. Sickness benefits are not subject to the benefit repayment that applies to higher-income claimants of regular benefits. |
| Canada Pension Plan or Quebec Pension Plan disability | Yes | Included in line 11400, with the disability part also shown on line 11410. No tax is withheld unless you ask, so you may owe tax when you file. |
| Workers’ compensation | No, but reported | Included on line 14400 and deducted in full on line 25000. It still counts in net income, which can reduce income-tested benefits and credits. |
| Canada Disability Benefit | No | Exempt from income tax. |
| Disability tax credit | Not income | A non-refundable credit that lowers the tax you owe. It does not make other disability income tax free. |
Quebec
Quebec’s own income tax follows the same principle for disability benefits: benefits from a group plan your employer contributed to are taxable, and tax is withheld from them. Employer premiums for group disability coverage that pays periodic benefits are not a taxable benefit in Quebec either. Quebec does tax employer contributions to most other group insurance, such as health, dental, life and critical illness coverage, and your RL-1 slip shows those benefits. If your employer pays the premium on an individual disability policy that is not part of a group plan, that premium is a taxable benefit in Quebec, as it is federally. Quebec Pension Plan disability is paid by Retraite Québec, which withholds tax only if you ask.
What this means when you choose coverage
A taxable benefit replaces less of your take-home pay than the same amount tax free. Some group plans make up for this by insuring a higher share of gross pay when benefits are taxable, but the gap is worth checking, especially if your earnings are above the plan’s maximum. A policy you pay for yourself pays tax-free benefits on top of a group plan, and insurers limit how much you can buy based on your income, your group coverage and whether it is taxable. Our guides to disability insurance through work and what disability insurance costs cover both sides.
Frequently asked questions
Are disability insurance benefits taxable in Canada?
It depends on who paid the premiums. Benefits from a policy you paid for yourself are tax free. Benefits from a group plan your employer contributed to are taxable, less the premiums you paid into that plan yourself.
Can I deduct my disability insurance premiums?
No. Premiums for personal disability insurance are not deductible, including for the self-employed, and benefits from a policy you paid for yourself are tax free. The exception is business overhead expense insurance, whose premiums are generally deductible and whose benefits are taxable.
Is tax withheld from long-term disability payments?
Yes, when the benefits are taxable. The Canada Revenue Agency requires payers to withhold income tax from wage-loss replacement plan benefits. Tax-free benefits from an employee-pay-all plan or a policy you pay for yourself have nothing withheld.
Is CPP disability taxable?
Yes. Canada Pension Plan and Quebec Pension Plan disability benefits are taxable income. Service Canada does not withhold tax from CPP disability unless you ask it to, so you may owe tax when you file.
Is workers’ compensation taxable?
No, but you still report it. Workers’ compensation is included in your income and then deducted in full, so it is not taxed. Because it counts in your net income, it can affect income-tested benefits and credits.
What to do next
Look up whether your workplace disability benefits are taxable, then work out what they would pay after tax. If the answer is less than you need, a licensed advisor can show you what an individual policy would add and what it would cost. For tax planning specific to your situation, especially through a corporation, speak with an accountant.
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