Independent Contractor or Employee?

Are those people really subcontractors or should you be treating them as employees? Make a mistake and it could drive you into bankruptcy.Are those people really subcontractors or should you be treating them as employees? Make a mistake and it could drive you into bankruptcy.

If the Canada Revenue Agency (CRA) deems that people you have been treating as subcontractors are in fact employees what are the ramifications to you? Would you believe that bankruptcy for both you personally and your business is a possibility?

Joe worked with you for three years; you paid him as a subcontractor. He had a business number, a GST number, and even covered his own Workers’ Compensation premiums. He sent you invoices each month and you paid them all. Surely that’s the end of it. Now Joe has left Canada and he didn’t file an income tax return for any of those three years. Each year you paid him $60,000 as a subcontractor plus GST, which he also failed to remit. Let’s ignore the GST and focus on the payroll items:

I am using approximate values and my numbers could be out by +or- 10%. Different provinces have different income tax rates and the rates for income tax, and the amounts subject to CPP and EI change each year. You would need to have an experienced payroll person review your numbers if you want to get accurate calculations.

Employment Insurance
Employee portion              $955
Employer portion   (1.4)   $1,337
Employee portion              $2,544
Employer portion              $2,544
Income tax                             $12,000
One year Liability                 $19,380
Three years                        $58,140

Add penalty plus interest.

Now multiply that by the number of “Joes” that you have as subcontractors who should be employees and you will see where the bankruptcy looms. If you have four “Joes” in your system you are on the hook for well over $200,000 for a three-year period plus the penalties and interest.

These amounts are called “source deductions” by CRA and they are deemed Trust Liabilities. This means that all directors of the company can be held personally liable for these amounts. CRA may choose to only go after one director if they deem it the most prudent way for them to get their money back.

The advantage to Joe is that he has saved himself a lot of money each year, depending on how you crunch the numbers. His savings are around $15,000 a year—tax free. Plus he took approximately another $3,500 a year in GST. Over the three years Joe is ahead by about $55,000.

Many companies pay people as subcontractors when in fact they would be deemed employees by Canada Revenue Agency (CRA). If you do this and if CRA deems that these people should have been employees, you could face very serious costs. You could be held liable for the tax they or you failed to remit, plus the employee portion of Canada Pension Plan (CPP) and Employment Insurance (EI), plus the employer portion of these. In addition, you could be liable for penalties and interest and whatever cost you incur if you argue your case.

Although CRA won’t provide you with a specific definition of an employee compared to a subcontractor or independent contractor, there are questions that you should answer that will help you make the right decision.

The determination of whether someone is an employee or “self-employed” becomes important when determining entitlement to EI benefits, sick leave, vacation pay, and CPP, or the entitlement to claim expenses earned in business income.

According to Canada Revenue Agency, you are likely an employee if your employer:
• Decides where, when, and how the work is to be done
• Establishes your working hours
• Determines your salary amount
• Supervises your activities
• Assesses the quality of your work

You are likely self-employed if you:
• Control the time, place, and manner of performing your activities
• Supply your own equipment and tools, and assume the rental and maintenance costs
• Make a profit or incur a loss, and cover operating costs
• Integrate your client’s activities into your own business activities.