The CRA and the BC Employment Standards Act have strict rules to separate contractors from employees. Since contractors are seen as operating their own business, hiring a contractor is more like a business to business transaction, like hiring an accountant to prepare and file your taxes. As such, you’re really only responsible for paying a contractor the agreed amount for the work you need – no CPP, EI, or vacation pay to worry about. Sounds great, right?
Contract positions are on the grow as the ‘gig-economy’ continues to flourish. Companies like Uber and Skip the Dishes have designed their business model around having a fleet of contractors on the front lines of their operations. Lawsuits have begun popping up from workers feeling shorted when companies hire them as contractors instead of employees. While Uber seems to be on-side, it may turn out that Skip the Dishes is not.
Pros and cons of employees and contractors
Hiring an employee can be a wonderful thing. Loyal, hardworking employees can make or break your business, but it is wise to realize the true cost of hiring one. After considering employer-paid CPP and EI, vacation pay and other time off, its estimated an employee will cost 1.2 to 1.4 times their salary. At $50,000 per year, that is an added $10-20 thousand dollars.
Employees complicate the administration of your business with payroll, scheduling, and general management. Terminating an employee has a lot more hoops to jump through (severance, ROEs, etc) where an email saying ‘kthanksbye’ to a contractor might do the trick, depending on the agreement.
Alternatively, hiring a contractor is much simpler. They can be used for short-term projects, or for ongoing periods, as long as they fit the regulatory mould. They are generally highly skilled in specialized areas to suit your needs. Best of all, they may save your business money by saving on the added costs described above, and/or avoiding expenses spent on administration.
However, contractors may not be as invested in their work for you. Employees have more stake in the game, and may take more pride in their work. Contractors may not be able to understand the culture of your business, and therefore can miss the mark on the work they perform.
Consequences of getting it wrong
From a cost perspective, employers will generally prefer to hire contractors; however, just because you have a contractor agreement doesn’t make it so.
The contractors you hire are prime targets for CRA audits because their self-employed status offers tax deductions for business expenses.
If it is determined they are your employee, you’ll be on the hook for both the employee and employer portions of unpaid CPP and EI, and income tax deductions plus interest and penalties. That’s just what the CRA will demand: you could also end up facing complaints under labour standards and have to pony up unpaid overtime and vacation, and even face wrongful termination suits.
How the CRA makes a ruling
When assessing whether or not an individual is an employee or contractor, the following are some of the key considerations the CRA will use:
An employee will have less “control” over their tasks. For example, an employee may be required to use specific software and perform a task in a specific way. Contractors usually have much more autonomy. There is a project they are hired for, and although the desired result is defined, they control how they get to that result.
Tools and Equipment
An employee will have less responsibility in providing their own tools and equipment than a self-employed person.
Subcontracting work or hiring assistants
An employee will generally not be able to subcontract work or hire assistants. Contractors would have that option.
An employee will not face financial risk, whereas a self-employed individual will be financially liable for costs and expenses when undertaking the job
Responsibility for investment and management
The employee will not have a capital investment in the company, whereas a contractor may and may also have their own staff.
Opportunity for Profit
Employees do not usually face a potential profit or loss situation. Alternatively, a contractor can realize a profit or loss based on what contracts they accept and complete.
The CRA provides a detailed guide for the “Employee or Self-employed” distinction, which can be found here: RC4110 Employee or Self-employed?
Why do workers get misclassified?
Employers tend to misclassify employee and independent contractors because the criteria is elaborate and it is difficult to make the determination. Every case has different variables that increase the difficulty of fitting the case facts to the criteria. As a result, errors in classification are made.
However, employers also tend to misclassify employees because of the financial implications. In basic terms, employers are going to pay less by classifying a worker as an independent contractor (assuming wages are equal).
If you are looking to obtain an official ruling on an employee vs. contractor situation, check out Employment Insurance Rulings.
Need additional assistance?
Having trouble with the distinction between the two or looking for more information about the consequences of misclassification? Book a meeting with a CPA.
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