Employee vs. Independent Contractor

by Alina V. Nikolaeva

There are different tax-planning concerns stemming from employer-employee and payer-independent contractor relationships.  Employer/payer is the payer and employee and independent contractor is the worker.  Each has pros and cons, for example:

 

Considerations	Independent contractor	Employee
Deduction of expenses by the worker	Available	Not available
Tax withholding/remittance by the payer	None, independent contractor is responsible for his/her own taxes	Must be done by the employer
Employment insurance (EI) premiums paid by the worker	No requirement to pay	Must be withheld and remitted by the employer
Work schedule	Flexible	Set, not flexible
Employment insurance benefits	Ineligible	Eligible
Requirement to collect and remit GST/PST	Yes	No
CPP premiums	Paid fully by the contractor, as such double compared to the employee	Employer and employee pay half each

The workers and payers can arrange their affairs as they see fit: the question of employment (employee) or self-employment (contractor) is up to the worker and payer to decide.  However, the worker and payer must ensure the status they have chosen is reflected in the actual terms and conditions of the relationships.

The Canada Revenue Agency (the “CRA”) may audit and ask questions to verify whether the chosen relationship of the parties is supported by the facts and to define whether there is a contract of service (employer-employee relationship) or contract for services (self-employment relationship).  Here are some of the considerations with the key words highlighted in bold:

• What is the level of control the payer has over the workers? Or what is the level of control the workers have over the way the work is done?
• Did the workers provide their own tools and equipment to do the job? are they being reimbursed for their use?
• Can the worker subcontract the work to someone else or hire assistants?
• Is there a degree of financial risk taken by the worker?
• Is there an opportunity for profit for the worker?

Control

Control is the ability, authority or right of a payer to exercise control over a worker regarding how, when and where the work will be done.

If a person is an employee, their hours will be set (i.e., from 9 to 5 day) and required to be spent at the employer’s place of work or another location as instructed by the payer.  The employee also will usually be restricted to working only for one employer (i.e., the employee normally cannot work on multiple employment contracts at the same time.  Mostly because the work time schedule usually the same – from 9 to 5.  The worker can have 2 jobs, if the time schedule allows and the worker does not need to sleep or have a life).  Generally, the employee-employer relationship is one of subordination;

In a self-employed situation, contractors generally work with little supervision, are free to define their own hours, may perform the work from location they determine and can provide services to different payers at the same time.

Tools and equipment

The investment in tools and equipment is significant in determining employment status.  A worker who has invested in tools and equipment is likely to retain a right over the use of these assets, diminishing the payer’s control over how the work is performed.

Self-employed individuals normally provide their own tools and equipment; whereas employees are generally provided with these assets by the employer.

However, some of the equipment may be too large for the contractor to carry around (i.e., piano), then this factor is not as determinative on its own.

 Subcontracting work or hiring assistants

Where a worker has the ability to subcontract work or hire assistants, his or her chance of profit is impacted and there is a risk of financial loss — a situation typically associated with self-employment.

Employees are generally restricted from hiring replacement workers and must perform the work themselves.

Financial risk

Employees generally do not incur financial risk as they are paid salaries independent of the profits of the employer.

Self-employed individuals can incur losses through expenses such as tools, equipment, office space, advertising and unfulfilled contract obligations and are not reimbursed for these expenses.  Employees do not incur these expenses as it rests with the employer.

Opportunity for profit

The opportunity to realize a profit or incur a loss indicates that a worker controls the business aspects of the services rendered and that a business/self-employment relationship likely exists.

An independent contractor can control their remuneration for work performed, and increase or decrease in expenses, impacts their profits.

Employee’s revenues are generally defined in advance and there is often little opportunity to share in the profits of the business.

The payers and the workers may prefer independent contractor positions as opposed to employees as for:

• The payer it may:
  • maximize profit and cash flow; and
  • decrease employment-related expenses – eligibility for employment insurance, reduced CPP premiums as employers and employees each pay half, mandatory payroll deductions (income tax, CPP and EI premiums), severance if employee is terminated;
• The workers, if they are independent contractors, will:
  • avoid tax withholdings;
  • GST/HST collection;
  • remittance requirements;
  • have more deductions; and
  • more flexibility in work hours.

Independent contractor agreements usually have termination clause that sets the term of engagement or notice for termination, providing for specific severance or no severance at all.  Terminating employees is much more complicated and regulated process.

However, if the terms and conditions of the work contract do not support the selected employment status, both worker and payer can face costly fees in respect of denied tax deductions, and/or unpaid CPP and EI premiums.

Each case is unique

For example, a pianist may still be an independent contractor even if he or she does not:

• bring her own piano to the concert or rehearsal; or
• does not determine a place and time of it.

Because other aspects will make it clear that relationships are not that of employee-employer:

• working for other companies; or
• ability to hire someone else to perform at rehearsal; or
• possibility of lost revenues if performance or rehearsal are cancelled by either party.

 Dependent Contractor

There is also an emerging category of dependent contractor which courts will recognize when a contractor is exclusive and financially dependent on the payer.  This characterization may arise if the contractor does not do work outside of the payer’s business.  If a contractor is characterized as a dependent contractor, they could have significant termination entitlements under the common law, even if they are not employees.

The facts of each case must be analyzed to determine the type of the relationship.  All circumstances need to be considered together, each one of itself may not be determinative as in the example above.  It is important to address these factors at the outset of the relationship with well-written contracts.