Independent Contractor or Employee?

There are a growing number of people choosing to stay active in business after taking "early retirement", severance packages or buyouts. Many of these people have chosen to establish consulting services or businesses which contract to larger businesses. Understanding the difference between being an independent contractor and an employee is an essential part of this process.

People providing services to others for remuneration are either an independent contractor or employees. The difference can be very subtle, with consequences that are anything but. The Courts and often the Appeal Courts are the ultimate arbiters of whether someone is an employee or independent contractor.

While written contracts are a useful guide in determining the nature of the relationship it is the essence of the relationship that is determinative, regardless of how it is described in a written contract. You can be an independent contractor even though there is no written contract. On the other hand, you may be an employee even though a written contract purports to create an independent contractor relationship

Legislation

There are crucial differences between employees and independent contractors for the purposes of the Income Tax Act, Canada Pension Plan Act, Employment Insurance Act, Worker’s Compensation Act, Labour Relations Code, Human Rights Code and Employment Standards Act.

The federal legislation requires that employers make remissions for and on behalf of employees but not on behalf of independent contractors. If an owner of a business pays an independent contractor, the owner may ultimately become liable if the contractor is found to be an employee after he fails to pay his tax remittance, EI premiums or CPP contributions. Alternatively, expenses deducted by a contractor against their income, such as auto expenses, travelling, home office, conventions, business travel, telephone and many others, may be disallowed if they are found to be an employee.

There are potentially more serious consequences under the Workers’ Compensation Act. If an employer does not include an employee in his assessable payroll and that employee is injured at work the employer may be held liable for the entire cost of the claim including a long-term disability pension. In the event of an audit the Board can also retrospectively assess an employer for payments he ought to have remitted.

Employment Standards legislation can also provide some nasty surprises for employers for:

• minimum wages
• overtime
• statutory holidays
• vacation pay
• severance pay

There is often additional entitlement at Common Law to severance pay. The courts used to distinguish between independent contractors and employees for the purposes of determining entitlement to pay severance. Independent contractors were not considered to be entitled to notice of termination of their contracts unless the contracts expressly provided for notice. There is, however, a current trend towards awarding independent contractors notice of termination of contracts (or damages instead) if there is a reasonable degree of economic dependence by the independent contractor on the party he is contracting with. If there is no written notice provision, the court may impose a reasonable notice period or corresponding damages.

Labour and human rights legislation provides far greater protection to employees than independent contractors.

It is difficult, and in some cases impossible, to get an advance ruling on the issue of independent contractor status. Many organizations and individuals gamble on this question. There can be very serious consequences if they are wrong. It is important for owners and contractors to be aware of the issues and minimize the risk of being wrong.

The test for determining whether an associate is an independent contractor or an employee is by no means clear. Every administrative body empowered to make a decision on this issue might decide the question differently. It is therefore possible to be an employee for some purposes and an independent contractor for others. The following factors are relevant to a consideration of whether a person is providing services as an independent contractor or an employee according to the Federal Court of Appeal in the leading and most cited income tax case, Wiebe Door Services vs. MNR:

• The degree of control over the work performed is a key issue. An independent contractor is generally free of control by the owner in the manner of doing the work, undertakes the work assigned and uses his own means to achieve a desired result;

• The risk of profit or loss is a hallmark of an independent contractor. While the manner of compensation may be relevant to this issue, it is not determinative. In other words, there are many situations in which people being paid on a percentage or piece work basis have been determined to be employees. However, the more risk and reward in the payment scheme, the more likely a finding of independent contractor;

• The ownership or provision of own tools or equipment by the provider of services is an indicator of independent contractor status, such as vehicles;

• The integration of the service provider into the overall operation of the owner is another consideration. If the services are an integral part as opposed to a severable part of the organization the service provider will more be more likely to be found an employee.

Other cases have referred to further factors.

• Exclusivity is another relevant consideration. A provider of services who is free to contract with other organizations or individuals to provide the same services is more likely to be determined to be an independent contractor;

• The intention of the parties as expressed in a contract, whether oral or written, is a relevant but not binding consideration;

Proprietary Rights and Confidentiality

Absent contractual provisions, it is arguable that service providers have certain rights vis a vis the owner’s clients. It would seem that they would have the right to solicit clients after they leave an owner’s business. They may also be entitled to take with them names and contact information on the clients they have worked with.

These rights can be better defined in a written agreement. Restrictive covenants and non-solicitation clauses can legally restrict the ability of associates to compete with owners they have left.

The common law provides some protection to owners by recognizing that unique procedures and innovations remain the property of the owner. The removal of proprietary information can be restrained by court order and damages can be awarded. Unfortunately, without a written agreement about what is proprietary information, it is much more difficult to obtain a remedy. Proprietary rights are very difficult to lay claim to, without a detailed contract.

Liability

Independent contractors appear to be ultimately responsible for negligence in the performance of their duties. This may be different if:

1. they are employees;
2. contracts are used to shift responsibility; or
3. the owner provides a written indemnification. Both owners and associates may consider the use of indemnification agreements to compensate for liability in appropriate circumstances.

Contract Issues.

There are many things that should be addressed in contracts between owners and associates:

• the term of the relationship and renewal of the term;
• definition of events that can lead to early termination;
• notice of termination obligations for both parties;
• the parties intentions regarding employment/independent contractor status including details of:

1. independence;
2. provision of own equipment;
3. risk/reward in commission payments;
4. the freedom to contract elsewhere as indicator of non-integral person;

• probationary periods;
• restrictive covenants and non-solicitation clauses;
• definition of proprietary information;
• the scheme of compensation and amendments to it;
• liability and indemnity;
• group insurance;
• description of duties and hours vs. general results required.

Conclusion

Owners and contractors are well advised to:

• be candid and clear in discussion to get both parties on same track;
• record results using a lawyer with knowledge in the area;
• remember penny wise is pound foolish;
• the cost of legal advice will be far less at the beginning than the end of a trial or hearing.

This article was prepared by Alf Kempf and Geord Holland. This article is not to be taken as legal advice and readers with any particular requirements should seek legal advice from a lawyer with experience in the area of practice.