December 22^nd, 2011, we had our first daughter – she was due December 6^th, and was so late that we had to issue her a chemical eviction notice and I was induced right before Christmas. While dealing with the shell shock that comes along with Planet Newborn, there is for many people a financial hit that goes along with it. I’m very lucky in that my employer tops me up to 85% of my salary for the first four months and 75% for the following eight. (Note to non Canadian readers – we have a year of paid maternity leave at 55% of our salary, to a max of $501 per week (as of March 24^th, 2013), and a number of employers add to this as a ‘top up’ benefit to their employees).

Because of the way the tax brackets fell, I ended up making essentially the same amount of money I would have had I been at work, for the ten months I was off. I went back early so that my husband could take two months to be at home with the baby…good for their relationship, a break from the day-to-day for him, and a whole level of context about being at home with a baby that cannot be gotten any other way. (Although the Lone Star song ‘Mr Mom’ comes close).

I had heard of the tax implications that come with mat leave, though, and thankfully went to my HR department and filled out a new T1, which is the form you use to change your tax deductions at the source. Bear with me while I attempt to explain how the morass of Revenue Canada breaks down maternity leave payments, and why you need to pay attention! (And the obvious disclaimer is that I am neither an account nor a CRA employee, so do not take this as gospel as it is not professional advice).

The key to understanding why your cheque is taxed the way it is, is that CRA assumes that when you get a payment from your employer, every payment for the remainder of the year will be that same amount. So if you get a whopping signing bonus, for example, CRA makes the assumption that every cheque will be that high and takes off a crazily high amount of tax.

The inverse problem applies if you’re on mat leave and getting top up payments from your employer as well. CRA assumes that your sadly low EI payment is all you’re getting, so taxes it at a ridiculously low rate. It then assumes your top-up is all you’re getting, and taxes it at the same far-too-low rate. So what ends up happening is that you get two payments with practically no tax taken off, whereas if you’d gotten it in one payment, you would have been taxed at a much higher amount. Let me try this with (completely fabricated, in no way relevant to anyone’s tax situation figures). Let’s say you get $500 from EI and $500 from your top up. You might pay $50 dollars in tax on each payment. (again, numbers COMPLETELY MADE UP). But if you’d gotten a $1000 payment, you would fall into a higher tax bracket and would need to pay $200 in tax instead of $100. So imagine that concept spread over an entire year, and you can see what type of headache might result.

Long story short: cover your butt. Go to your employer and have them take extra tax off at source if you’re getting a top-up, to prevent an ugly tax hangover come the following April.

So readers, anyone else have an unexpected tax time hangover?