a. Factors that Determine Who is an Employee and Who is an Independent Contractor
Determining whether an individual is an employee or an independent contractor under Canadian law is more of an art than a science. In simple terms, actions speak louder than words. A well-drafted and properly executed contract will not be determinative in evaluating the status of the relationship between the individual in question and the company retaining his or her services.
In making status determinations, Canadian courts and administrative tribunals will consider the subjective intention of the parties, which may include a written contract, along with the objective reality of the working relationship. The weight that Canadian courts and tribunals place on a written contract varies.
In a recent decision, the Federal Court of Appeal restated the legal test applicable to determining whether an individual is an employee or an independent contractor1. The current test articulated by the Federal Court of Appeal is encapsulated by the following two-step inquiry:
- first, the court should determine the subjective intention of the parties by written agreement or conduct; and
- second, the court should ascertain the objective reality by evaluating whether the facts are consistent with the parties’ stated intentions.
In addressing the second step, decision-makers will often consider the following four factors enunciated in the case of “Wiebe Door”, (frequently referred to as the “Wiebe Door” factors):
- ownership of Tools
- chance of profit
- risk of loss2
The courts have repeatedly held that no particular factor is dominant.3 Instead, these four factors constitute a non-exhaustive list, and there is no set formula as to their application. The relative weight of each factor will depend on the particular facts and circumstances of each case.4 In this respect, the courts will consider all factors, and will evaluate the totality of the relationship on a case-by-case basis. In applying the Wiebe Door factors, the courts will consider some or all of the following questions for each factor:
Is the worker under the direction and control of another regarding the time, place, and manner in which the work is performed? Is the worker hired, given instruction, supervised, controlled, or subject to discipline? Does the worker set his or her own hours and complete work independently? Can the worker hire subcontractors to complete the work? Arrangements whereby the worker is given greater flexibility over how and when the work is performed tend to suggest an independent contractor relationship.
Ownership of Tools
Does the worker use tools, space, supplies or equipment provided by the company or does the worker utilize his or her own resources to complete the work? Arrangements whereby the worker supplies his or her own highly specialized and/or expensive equipment may suggest a non-employment relationship. Arrangements whereby the company supplies most of the resources may suggest an employment relationship.
Chance of Profit
Can the worker increase his or her earnings by using entrepreneurial skills? Is the worker paid an hourly rate, which limits his or her chance of profit, or is he or she paid piecemeal, meaning greater efficiency may increase profits? Arrangements whereby a worker’s skills, efficiency, or entrepreneurial work can increase the worker’s earnings tend to suggest an independent contractor relationship.
Risk of Loss
Is the worker at risk of losing money if the cost of doing a job is more than the price charged for it? Is the worker at risk of not being paid if the work is not done correctly? Arrangements whereby workers are at a greater risk of loss when performing services may favour a finding of a non-employment relationship.
In considering the above, it is clear the courts will consider status issues on a case-by-case basis by evaluating all relevant facts and circumstances. A contract will not ensure a particular status if the practical reality is not consistent with that status. To make matters more complicated, a determination in one forum may not always be binding in another.
For instance, a finding in the Tax Court of Canada (the “Tax Court”) that an individual is an independent contractor may not result in the same finding under employment standards legislation. Indeed, despite the importance of correctly characterizing an employment relationship, there is no universal definition of “employee” in Canadian legislation. The Supreme Court of Canada has stated that when courts and tribunals are examining whether or not a particular individual is an “employee”, the particular policy objectives of the statute at issue must be taken into account.5
b. General Differences in Tax Treatment
There are many tax advantages for both companies and individuals in classifying workers as independent contractors rather than employees.
For companies, payment will be made directly to the independent contractor, without any required source deductions. Also, companies will not be required to make deductions or employer contributions to various government programs, namely, for Employment Insurance (“EI”) or the Canada Pension Plan (“CPP”) premiums.
For the independent contractor, the lack of deductions means more money in his or her pocket. The totality of income tax and premium deductions can be significant, so the independent contractor benefits greatly from reducing and deferring the income tax payable, and from never having to make EI or CPP contributions unless he or she qualifies for, and opts into, a corresponding program.
Independent contractor status also provides the independent contractor with other tax advantages. Independent contractors can write off various business expenses, which may include home-related expenses such as internet, phone, utilities, and even a portion of mortgage/housing rental fees, along with business equipment, business use vehicles, gas, meals, and sometimes entertainment. This means that the independent contractor has the potential to net far higher earnings than an employee earning a similar gross amount.
The possibility of savings for the company does not come without risk. A company can face significant liabilities if the Canada Revenue Agency (“CRA”) determines that an individual who has been treated as an independent contractor is actually an employee. Such liabilities may be of particular concern to businesses that classify a significant portion of their workers as independent contractors (for instance, as may be seen in a taxi or tow-truck company). A reassessment in those cases could compromise the future of the business. As such, companies that contract with a significant number of independent contractors should ensure that a well-drafted independent contractor agreement for each worker is in place, and that the practical reality of the working relationship is consistent with the worker’s designation as an independent contractor. Otherwise, a moderate tax advantage today could become a far greater tax liability tomorrow, as the reassessment of a worker’s status could mean that the company would be responsible not only for its own premiums and deductions, but also the worker’s portion that it failed to remit.
In this respect, there may be advantages to classifying a working relationship as employer-employee. Deductions are made by the employer, without potential liabilities relating to income tax, EI and CPP. An employer-employee classification also provides increased protection for the worker, including the ability to apply for EI benefits should he or she become unemployed.
c. Differences in Benefit Entitlement
In general terms, independent contractor status provides workers with financial/tax benefits (as described above) at the cost of all other employment-related benefits. For instance, given that independent contractors are not required to pay government premiums for EI or CPP, they likewise will not qualify for receipt of these benefits. In this respect, an independent contractor will not receive government income protection (EI) for a period where they do not have work. Also, they will not receive government pension payments by way of CPP benefits, unless they elect to contribute.
Further, independent contractors are not entitled to the basic protections of employment standards legislation. This includes the benefit of vacation pay and statutory holiday pay. Employees protected by employment standards legislation are also entitled to take various paid leaves of absence, including, but not limited to, pregnancy leave, parental leave, sick leave, and family medical leave. Independent contractors have no such entitlement.
In terms of medical benefit coverage, Canada’s employment standards legislation generally does not require that companies provide medical insurance benefits for employees; however, medical benefits are often provided to employees as part of a negotiated remuneration plan. It is unlikely that an independent contractor would receive medical benefit coverage, which may include provisions for long-term disability, extended health, dental, and other insurance coverage. Notably, Canadians have universal health care coverage and are not required to pay directly for most non-elective medical procedures and assessments.
Canadian jurisdictions feature workplace safety and insurance regimes to provide benefits coverage in the event of a work-related accident. Such coverage may include loss of earnings payments, medical treatment coverage, and even retraining for a new career. Generally, while employees qualify for such coverage, independent contractors do not.
There may be special status for independent contractors in various workplace safety and insurance regimes. For instance, in Ontario, individuals can apply for optional insurance for “independent operators”. Not only does this benefit the contractor (aka the operator), but it also provides significant legal protection to the company, as workers entitled to benefits under the Ontario Workplace Safety and Insurance Act for work-related injuries are generally precluded from pursuing civil actions (i.e. personal injury lawsuits) to recover damages for work-related injuries. In contrast, an independent operator without optional coverage may be free to sue the company for damages in respect of a work-related injury.
d. Differences in Protection from Termination
Both independent contractor and employment relationships can be terminated; a key distinction between them as to termination involves entitlement to notice of termination.
Independent contractors are generally not entitled to notice of termination under employment standards legislation or the common law, unless their contract contains a provision that stipulates some form of notice.
Generally, employees are entitled to notice of termination. First, applicable employment standards legislation sets minimum requirements for notice and, depending on the jurisdiction, severance pay. Second, employees may also be entitled to common law reasonable notice of termination, unless a contract of employment otherwise limits notice. Reasonable notice at common law is a remedy that the courts can provide for employees terminated without notice or insufficient notice, which is more often than not far greater than the minimum statutory requirements. An employee is entitled to at least the minimum legislative standards in respect of notice and severance, if applicable, except in the case of significant misconduct (often termed as “just cause”).
Some Canadian courts have recognized an intermediate category of contractor, between an employee and an independent contractor. This intermediate category is often referred to as a “dependent contractor” because it is economically dependent on the contracting company. A dependent contractor will generally be entitled to notice of the termination of his or her contract, however, the amount of notice to which a dependent contractor will be entitled at common law is less than the amount of notice to which a similarly-situated employee would be entitled.6
Notably, most of the law considering status disputes has evolved out of the Tax Court; however, other adjudicators consistently consider the Wiebe Door factors and generally apply an analogous approach.
Often such cases only come forward at the end of a relationship where a former worker, classified as an independent contractor, becomes dissatisfied with the notice of termination received when the relationship ceases. Unfortunately, even though that individual may have reaped the tax benefits of independent contractor status for years, he or she may be considered an employee or dependent contractor under the above tests, and thus, be entitled to reasonable notice of termination.
e. Local Limitations on Use of Independent Contractors
The main limitation on the use of independent contractors in Canada is the risk that they will be reclassified as employees. As discussed above, an employer could face substantial legal liability if an independent contractor is found to be an employee.
Another limitation relates to work performed under a collective agreement. Where, pursuant to a collective agreement, a union holds the bargaining rights for a particular class of workers, it may be a violation of the collective agreement for the company to hire independent contractors to complete the work ordinarily conducted by workers in the bargaining unit. A company cannot circumvent a union’s bargaining rights by assigning bargaining unit work to independent contractors where the collective agreement so provides.
f. Other Ramifications of Classification
Labour Relations Ramifications
Pursuant to provincial labour legislation, such as the Ontario Labour Relations Act, where an individual is considered an “employee”, that individual may be included as part of an existing bargaining unit, or may be eligible to be included in an application for certification of a union. Under the Labour Relations Act, only employees, which, by statutory definition, includes “dependent contractors”, are eligible to unionize and collectively bargain. Independent contractors would therefore not be eligible to participate in the collective bargaining regime.
If a company becomes insolvent, whether a worker is an independent contractor or an employee can affect the priority for amounts to be paid to the worker. Pursuant to the federal Bankruptcy and Insolvency Act, as well as various other statutes, employees take priority over other creditors up to certain amounts. By contrast, independent contractors do not have the same priority.
g. Leased or Seconded Employees
Use of a staffing agency may provide more flexibility to meet a company’s staffing needs. The use of an agency may limit various liabilities, including those arising from wrongful dismissal claims. Further, the contracting company will not be required to pay premiums for EI, CPP or other employment-related benefits in respect of agency employees. However, these costs savings may factor into the fee charged by the agency.
In the event that a company contracts with or seconds employees from an agency or another company, the company should ensure that an arms-length relationship with these employees is preserved by the practical realities of the engagement. For instance, if the company controls all aspects of the work, it may be found to be the “true employer” of the agency employees, which could result in liability for various employment-related matters.
Further, even contracting with workers from an agency may not limit liabilities in certain legal venues. For instance, the contracting company may, in some circumstances, have all or at least partial liability in respect of a workplace accident. Further, a contractor could file a human rights application against the contracting firm. As such, while using an agency does provide some protection, these protections are not boundless. Given the practical realities of working relationships, a contractual relationship may be most useful for fixed-term work projects or temporary work.
h. Regulations of the Different Categories of Contracts
Employment agreements in Canada are regulated only in the sense that a court or government body (such as the CRA) can review or analyze a relationship in the course of litigation, at the request of one of the parties, or in some cases, by undertaking an independent audit. Otherwise, parties are generally free to enter into whatever sort of relationship they wish, provided they comply with the statutory requirements that arise depending on how the relationship is classified. The relationship between the parties who enter into an agreement is generally regulated by that agreement, and will not be subject to judicial or administrative review, unless a dispute arises that results in litigation.