Employee vs. Contractor

Shawnee Love   •  
May 7, 2010

I was talking to a colleague about a client who had the brilliant idea to fire all his employees and then rehire them as contractors. The client envisioned a world where he only pays for the work done and time worked by employees and he saves money on benefits and Canada Pension Plan (CPP), Employment Insurance (EI), Workers Compensation Board (WCB), etc.

The old adage applies, if it sounds too good be true, it probably is. You see Revenue Canada doesn’t want to give up its source deductions (and for the more optimistic readers, yes Revenue Canada may also want to protect workers). So, Rev Can has made it difficult to hire employees as contractors by creating a rigorous test for determining whether you have an employee or contractor. The test is thorough and looks at four major criteria when determining whether a worker is an employee (who you will have to pay source deductions for) or a contractor (who you don’t).

The major criteria are:

  • Control (who determines what the work is, when it needs to be done, how it will be done, etc.?)
  • Tools & Equipment (who provides them?)
  • Financial Risk & Rewards (who pays for unforeseen & normal costs, who reaps the benefits of windfall profits, how is the worker paid?)
  • Responsibility for Investment & Management (who is making the big decisions?)

The reason I am sharing this information is because if you are making the mistake of hiring subcontractors but treating them like employees then you could be on the hook for both the employer AND employee portions of the source deductions if audited by Revenue Canada. Plus, you could also be asked to pay penalties and interest!  Revenue Canada is not kidding around and will hold the employer responsible for all deductions. You are not allowed to go back to your workers and ask them to pay their portions either.

If you truly hire subcontractors, then you have nothing to worry about. Just remember to:

  • clearly indicate the relationship in your agreement,
  • set out the milestones and objectives but be aware that the subcontractor determines how the work is done,
  • agree upon a price and payment schedule that is attached to the project and doesn’t look like an employee’s wages,
  • protect yourself with clear wording on termination of contract, expectations, confidentiality, non-solicitation, etc., and
  • where possible, have the subcontractor do the work using his own tools and equipment.  (If it is necessary to have the subcontractor work on site and using your company tools and equipment (i.e., if confidential information or intellectual property is involved, then indicate this rationale in the contract.)

If you have specific questions, I know some good lawyers who are better able to advise you as to employer vs. contractor than I can. My purpose in this article is to make you aware of the issue and the fact that Revenue Canada has its eyes on it as well. For further information on Revenue Canada’s perspective, see their guide to Employees vs. Contractors (Self Employed), which I have included under Client Resources on my website.

One final note, is that even if you don’t have to pay WCB for your contractor, you may want to protect yourself by getting coverage for anyone who works for you (employee or otherwise) anyway. It is often more efficient and less costly in the long run than trying to enforce each contractor having WCB coverage themselves.

A bit of a dry topic for a week ender, but it could save you vast amounts of money in the long run. If you have other good tips for setting up a relationship with a subcontractor, send them my way and I will include them in future articles. TGIF!