Should I Hire an Employee or a Sub-Contractor?

Our clients often ask us if hiring a sub-contractor makes more sense than hiring an employee. There are a number of considerations to this question: relative costs of an employee vs. a sub-contractor, legal obligations to each, as well as what are the facts of the relationship.

There are some real differences in costs and obligations for businesses to consider:

1. Employees: this relationship and its obligations are governed under the Employment Standards Act of British

1. Mandated withholdings to be collected off gross pay and remitted to the Canada Revenue Agency (CRA).
2. Employer-paid portions of CPP and EI contributions are required.
3. Vacation time or pay in lieu of, as well as severance pay in lieu of notice, is required under the ESA.
4. Any other employer offered benefit programs, such as health insurance or dental coverage, can add additional costs and compliance.

2. Sub-contractors: there is no specific legislation governing this relationship, but there are obligations under the ITA and Excise Tax Act of Canada. Points worthy of consideration are:

1. The company may be liable for WCB premiums on the contract payments if the sub-contractor is not otherwise insured.
2. Payments to the contractor over $500 annually need to be reported on a T5018 or T4A information slip, depending on the nature of trade, to CRA.
3. GST may be required to be paid on top of base costs if the contractor is a registrant.

Equally, if not more important than the above, is to understand that under the ITA, Employed vs. Self-Employed status is a question of fact. This means that no matter what wording is put in a contract, the individual’s status in the eyes of CRA (and the business’ related compliance obligations) is determined by a five point test:

1. Control – does the individual exercise discretion in how they complete their work?
2. Integration – is the individual integrated with the employer organization?
3. Risk of loss – does the individual bear any risk of loss or benefit of profit for the activity?
4. Ownership of tools – who owns the tools the individual uses to perform the work?
5. Specific results test – is the contract indefinite or for a specific task with a completion date?

If a business were to hire an individual as a contractor but the five-point test indicates an employment relationship, the business could be liable for full source deductions on all payments made, including penalties and interest.

As an example, Good Intentions Inc. (GI) hires Joe Contractor to perform janitorial duties. In the contract GI specifies Joe is a contractor who will be responsible for his own WCB; further he will work Monday to Friday 9am to 5pm with a half hour lunch break, be allowed two weeks’ vacation, report directly to Tina Cobra in management and will have access to the cleaning supplies closet. Now GI has gone to the effort to spell out in a legal contract that Joe is a self-employed contractor and begins paying him as such. If we put on our CRA hat and look at the facts of GI and Joe’s relationship we see the following:

1. Control – Joe has no control over how he performs the work. He is being supervised by Tina.
2. Integration – as a direct report to a manager of the company, working on site and on company standard hours, Joe is fairly integrated with the organization.
3. Risk of loss – Joe is paid a flat rate and bears no significant risk of loss.
4. Ownership of tools – Joe is using GI’s supplies to perform his task.
5. Specific results test – Joe is engaged for ongoing work at the company’s discretion, not for a specific project with an end date.

Given the above facts, the likelihood is that Joe would be assessed as an employee by CRA and GI would be liable to pay the full source deductions on all payments made to Joe.

It is always recommended to seek advice if you are unsure, to avoid costly payroll audits down the road. Please let us know how we can help you make the right decision.

Sources:

Employment Standards Act
Excise Tax Act of Canada
Income Tax Act of Canada