Are You A Contractor or An Employee? It Makes a Huge Difference!
Getting hired as an employee versus an independent contractor, among other factors, makes a huge difference from the tax perspective, for both the hired and the hirer. Employers are required by law to deduct from each employee’s paycheck income taxes, Canada Pension Plan (CPP), and Employment Insurance (EI) premiums. These deductions plus employer’s portion of CPP and EI must then be quickly remitted to the government. Delay in remittance of these deduction is subject to penalties and interest charges. Additionally, employers are required to finance employee’s statutory holiday entitlement, sick, and severance-pay, and pay for WSIB, and EHT premiums. As well, employers may also provide their employees with other benefits such as group health and life Insurance, training, while bearing other employment related costs. With the above in mind, it is easy to see why, when possible, employers prefer to hire contractors in place of employing more workers.
There is, of course, a big tax advantage for contractors. Unlike employees, contractors, as self-employed persons, can deduct all their reasonable business expenses from their earnings. In other words, it is tax advantageous to hire a contractor for the hired as well as the hirer, both of whom seemingly win at the expense of the CRA. It is because of this apparent conflict of interest that determination of whether a person is an employee or an independent contractor has been tried in the courts over and over again. The result of those court cases has been the development of certain tests to determine, on a case-by-case basis, whether the relationship between the parties is that of an employee-employer relationship or otherwise. In this regard, there are four key tests; “Control”, “Risk of Loss”, “Ownership of Tools”, and “Integration” to consider in determination of the relationship between the hired and the hirer.
The question under this heading is whether the hirer has the right or the ability to dictate the time, place, and the way the work is to be completed. If the hirer has such right or ability, then the relationship is likely to be one of an employee-employer relationship. On the other hand, in an independent contractor situation, it is the contractor who decides where, when and how the work is to be completed.
Risk of Financial Loss
In an employee-employer relationship the employee is assured of being paid a certain per-determined amount regardless, whereas, in an independent contractor situation, the contractor will assume the risk of making a financial loss in the process of completing the work. For example, if the negotiated price of the contract is less than the cost of completing the work, then the relationship is probably a business relationship.
Ownership of Tools
Although in certain trades employees supply their own tools (e.g. garage mechanics), but typically, employees are not expected to provide their own tools in the performance of their employment duties. As such, it is a reasonable assumption that if the hired supplies his own tools, then he is likely to an independent contractor especially if the cost of purchase, maintenance, or renting of the tools exceeds the associated earnings.
The CRA suggests “Where the worker integrates the payer’s activities to his own commercial activities, a business relationship probably exists …… Where the worker integrates his activities to the commercial activities of the payer, an employer-employee relationship probably exists.” While the CRA does not layout how to establish integration but it is clear that to integrate the payer’s activities into one’s own commercial activity is to have multiple clients. The contractor who has only one client can be perceived to have an employee-employer relationship with the payer.
While having written contract with the payer does not in itself prove the nature of the relationship, however, having a contract that specifically addresses questions of “Control”, “Risk of Financial Loss”, and “Ownership of Tools” can be of evidence of a business relationship. Regardless, the determination of nature of the relationship between a hired and the hirer is not clear cut and the final determination of whether a person is an independent contractor or an employee should be decided on a case by case basis.
In light of lack of clear cut directive in the determination of the relationship between the hired and the hirer, it is essential that contractors take necessary measures to ensure their status as independent contractors, is clearly defined otherwise, they may have to bear the serious income tax effect of having the CRA assess their status as one of an employee. In this regard, if you are uncertain whether you are an employee or an independent contractor, you owe it to yourself to discuss the matter with your accountant.
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