employing contractors and contracting employees
TRANSCRIPT
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Employing Contractors and Contracting Employees:Sorting Out Tax and Legal Issues
Shane Onufrechuk, CARichard Press, LL.B.November 10, 2011
5573299_1.ppt
Employee vs. Independent Contractor
Leading Case – Wiebe Door Services Ltd. V. MNR• 4 tests (maybe 5) Control Ownership of tools Chance of profit Risk of loss Maybe “integration”
Latest Case – Long et al v. MNR• Tests too rigid• Integration test not relevant• Legal relationships matter – but not always followed in the
courts where inconsistent Other cases
Tax Implications of Employment - Individual
Employee• Limitation on deductions
Tools Musical instruments Moving expenses etc.
• Not responsible for CPP and EI• Not taxable supply for GST/HST• Income reported on a cash basis
Employer• Obligation to withhold
EI CPP Income Tax
• T4 Reporting
Implications of Independent Contractor -Individual
Contractor• Likely has instalment obligation relating to taxes payable• Expenses laid out to earn income deductible (subject to
limitations in the Income Tax Act “ITA”)• Unless small supplier or exempt supply obligation to
collect and remit GST/HST• Income reported on an accrual basis
Service Recipient• No obligation to withhold tax• No obligation to report amount paid
Implications of Employee-Like Relationship – Corporate Employees
Personal Services Business• Defined at 125(7) of the ITA• Defined as Corporation carrying on business of providing services
where• Individual performs services on behalf of the corp• Individual or related person is a specified shareholder• Individual would “reasonably be regarded” as an officer
or employee of the services recipient but for the corporation
• Unless more than 5 full time employees or services are provided to an associated corp.
Implications of Employee-Like Relationship – Corporate Employee cont’d
Implication of being a Personal Service Corporation• Denied small business deduction• Limited deduction of expense in Corp. (same as
employee)
Purpose of legislation is to prevent the conversion of salary income into corporate business income taxed at a low rate
Consider Criterion Capital Case for officers where services provided outside of employment duties
Implications of Employee-Like Relationship – Corporate Employee cont’d
Employer• No payroll costs i.e. EI and CPP• No withholding obligations• GST needs to be paid if not small supplier or
exempt supply
Personal Services BusinessTax Planning Opportunity?
Income Tax Deferral• 25% corporate tax rate in 2011• 19% deferral over to personal rate
Absolute tax savings• Income splitting with family members• Pay out retained earnings when not a top marginal rate
Reduced Payroll costs• No EI and CPP• No T4’s etc.
Consider for high income salaried employees who have income in excess of personal needs, or a low income spouse or other adult dependants
Personal Services BusinessDisadvantages
Administrative costs and time Loss of “earned income” for RRSP purposes Dealing with stock options Change in law??
Incorporated Contractors
Similar benefits to Personal Services Business Enhanced deferral for Small Business Deduction
income SBD rate in BC presently 13.5% on first $500,000 April 1, 2012 SBD rate will be 0% in BC for an 11%
effective rate of the first $500,000 of active business income
Creates a potential 32% tax deferral opportunity Creates liability protection
Personal Services Business Implementation
1. Create family trust (if necessary)2. Have trust or principal and related family members
incorporate corporation with proportionate shareholding as desired
3. Have principal terminate existing employment contract (subject to legal advice)
4. Have incorporation entity and employer enter into a services contract with terms similar to previous employment agreement (see employment advice)
5. Have principal enter into a contract with the incorporated entity to perform services on behalf of the entity.
Stock Options
Treatment different for employees and independent contractors
Employees benefit from the stock options rules found in section 7
No 50% 110(1)(d) deduction for independent contractors
No deferral for independent contractors on the issuance of stock options
Treated as an in kind payment of fees for independent contractors
Outside the tax regime: Legal tests
Vary by tribunal Finding of one tribunal is influential, but not
determinative, for second tribunal• e.g. may be a contractor for CRA purposes and
an employee for human rights All test based on facts An agreement between the parties as to status
is not determinative
Legal test for contractor or employee status
There is no bright line test Vary by tribunal Finding of one tribunal is influential, but not
determinative, for second tribunal (e.g. may be a contractor for CRA purposes and an employee for human rights)
All tests are fact specific
Key Factors
Control Integration (but not importance) Investment Diversity Legal relationship (but not intent)
Control test
Is there control over workers?• Selection – employers select specific employees• Dismissal and discipline – employers discipline
and dismiss an employee• Method - employers control the method in which
the job is carried out• Timing – employers set when the work must be
performed • Remuneration - employers set and amend the
payment scale
Four-fold test
Control (as per prior slide) Ownership of tools – investment in business Chance of gain – contractors have a chance of
windfall profits if job performed successfully Risk of loss – contractors have chance of loss
if services performed poorly
Organizational or integration test
Is work integral to the operation of the business?
The more integrated the work is with the business, the more likely it is that the worker is an employee
Considers control: can worker set own hours and methods
Permanency test
Based on duration of the relationship The longer and more continuous the
relationship, the greater chance that it is an employment relationship
Inapplicable for many common modern contractor relationships – e.g. distributorships
Economic reality test
Combines control test, four-fold test and permanency test
Adds Diversity• Can worker perform similar services to other
parties?• Can worker actively search out other work?
Recent Cases (other than tax cases)
671122 Ontario Ltd. v. Sagaz Industries Canada Inc.• 2001 Supreme Court of Canada decision• Integration and Control
Smith v. Centra Windows Ltd.• 2009 B.C. Supreme Court decision• Continuum of arrangements• No factor conclusive (i.e. no bright line)
Recent Developments in Human Rights
McCormick v Fasken Martineau Dumoulin 2011 BCSC 713
Pardy v. Earle & Zesty’s Restaurant 2011 BCHRT 101
Human Rights test for employee status
Utilization: is one party using the services of another for its own benefit
Control: Does one party have the right to exercise control over the other
Financial Burden/Remuneration: Who controls the amount of compensation received
Remedial Purpose: Who has the practical ability to remedy the discrimination in question
McCormick v. Fasken
Law Firm: 650 equity partners worldwide; 60 in Vancouver (including McCormick)
Partnership agreement required mandatory retirement at age 65
Found to be an employment relationship
McCormick v. Fasken
Firm utilizes partner to service clients and generate IP
Partnership agreement and managing partner/executive committee control partner
Remuneration of partner a judgment call of other partners, not strictly based on billings
Forced retirement engages remedial purposes of Code
Pardy v. Earle & Zesty
Stand-up comedian hosted an open mic in exchange a $50 shared beer tab (all the comics had to share the tab)
Restaurant did advertising for open mic Comedian gets into dispute with lesbian
patrons Found to be an employment relationship Restaurant on hook for comedian’s damages
Pardy v. Earle & Zesty
Restaurant utilized comedian to attract patrons and to recruit some other comics
Comedian needed restaurant’s permission to go on-stage and restaurant controlled comedian by preventing him from going on-stage again
The shared $50 beer tab was sufficient remuneration
Restaurant had power to remedy comedian’s wrong: could have stopped show; offered apology; offered compensation
Why care?
Tax and payroll liability Insurance liability (WCB and general) Employment standards Labour Code liability Human rights liability Privacy liability Civil liability (wrongful dismissal and vicarious liability) Intellectual property liability Post-relationship obligations
How to protect yourself
If retaining a contractor:• Contract with a company, not individual• Have a written contract.
If hiring an employee:• Have a written contract.
Taxation
Employer BusinessMust make income tax withholdings
Contractor responsible for own withholding and deductions
Not taxable supply of GST/HST
Contractor usually must charge GST/HST
Limited allowable deductions
Greater income tax benefits:- more allowable deductions - income splitting
Payroll
Employer Business
Have payroll costs as must withhold and contribute on CPP and EI
Minimal payroll costs for contractor (likely paid through A/R)
Issues T4 Contractor bears payroll costs for own payroll
Contractor should render accounts
Benefits and Perquisites
Employer Business
Employers commonly provide health and welfare benefits
Businesses should not provide health and welfare benefits to contractors
Contractors lose “earned income” for RRSP purposes
Employers commonly provide perks (e.g. car allowance, club dues, etc.)
Business may reimburse contractors for expenses- Costs or costs plus
Insurance and Health and Safety
Employer Business
Must establish WCB accountMust pay WCB premiums for employees
Contractor responsible for WCBShould get clearance letter
Employee negligence usually covered by general insurance
Not insured for actions(Should ensure have insurance)
Indemnity uncommon Indemnity common
Payment issues
Employer Business
Must usually pay wages at least semi-monthly
Can contract for any fee payment scheme
Deductions from wages unlawful
Can contract to set-off claims
Hours of work
Employer Business
Non-managerial employees generally entitled to overtime
Can establish flat rate
Employees entitled to leaves (jury duty to maternity leave)
Contractors responsible for providing service
Time off
Employer Business
Employees entitled to vacation
Contractor not entitled to vacation
Non-managerial employees entitled to statutory holidays
Contractors not entitled to statutory holidays
Termination of relationship
Employer Business
Summary dismissal for just cause
Summary termination for: - non-curable or non-cured material breach- bankruptcy- act of principal
Absent just cause, notice or pay in lieu
ESA minimums
Contracted term or “reasonable” notice
Civil liability
Employer Business
Wrongful dismissal claim exposure
- approx. 24 month maximum exposure
Wrongful termination claim exposure
- approx. 12 month maximum exposure
Vicarious liability issues Vicarious liability unlikely
Privacy
Employer Business
Obligation on employer to protect employee personal information
May be no obligation of business to protect contractor information
Must implement privacy policy on collection, use and disclosure of employee information
May need to obtain consent to share personal info with contractor and ensure contractor protects that info
Human Rights
Employer Business
Must comply with human rights re. hiring and managing employment relationship
May discriminate against contractor.
Remedial legislationBroad scope of who is employee
Confidentiality and Post Relationship Obligations
Employer Business
Employee has duty of confidence
Contractor may not have duty of confidence
Consider contracting for post-employment obligations (e.g. non-compete, non-solicit, etc)
Can contract for confidentiality; consider contracting for post-relationship obligations
Fiduciary duty and loyalty
Employer Business
Key employees owes fiduciary duty
Absent professional relationship, fiduciary duty unlikely
All employees owe duty of loyalty- Conflict of interest usually cause
No duty of loyalty- May provide services to competitor absent contractual prohibition
Intellectual property
Employer Business
Employer automatically owns most employee’s works
Business usually owns none of its contractor’s works
Should contract for unowned rights- e.g. moral rights
Should contract for all IP rights
Common contractual terms for employees
Compensation Position, duties and reporting Termination Benefits and vacation
Common contractual terms for contractors
Fees and accounts Services Representation to public Termination Expenses and additional costs Insurance Authority Indemnity Set-off
5 common reasons why contractors are found to be employees
Have business cards (integration) Are part of corporate chart (integration and
control) No financial investment in their own business
(investment) Accept employee benefits, including vacation
(integration) Have authority to bind the company
(integration)
5 take away points
A contractor is in business for itself, an employee works for you.
Sort out the form of relationship at the beginning of the relationship.
Have a good written contract for both employees and contractors.
Try to stay away from close to the line. Get legal and accounting advice beforehand.
Questions or Comments