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The Difference Between Subcontractors and Employees

In today’s “gig economy” more and more people are working on a freelance or contract basis. Employers typically like to hire independent contractors for flexibility and because the employer doesn’t have to provide benefits, pensions, or withhold a portion of the money paid for Canada Pension and Employment Insurance.

Employees often like to be classified as subcontractors as well since there are potential tax deductions to go with the flexibility and freedom of being a contractor.

However, in some situations, contractors can end up be considered employees for tax purposes. This eliminates the above benefits and places the two parties in an employee-employer relationship.  This might not be what you want and can affect your income taxes if you didn’t plan for it

The Canada Revenue Agency (CRA) sets out several factors to consider when determining whether an individual is a contractor or an employee.

  • Control
    • The degree of control that the organization holds over the individual will help determine the relationship.
    • If the organization controls how and when work is carried out, the amount of pay, the location where the work is completed, etc. then it could be considered an employer-employee relationship.
    • However, if the individual usually works independently, is free to work when and for whom they choose, can accept or refuse work, and can determine the amount paid and the methods used to complete the work, then the individual would be considered a contractor.
  • Tools
    • If the individual is responsible for supplying their own tools to accomplish the work, then this person is likely a contractor. The individual will be generally responsible for repair and maintenance costs for the tools and retains use over the tools in question.
  • Financial Risk
    • The degree of financial risk for the individual can help determine the nature of the relationship.
    • Employees do not typically have any financial risk as their expenses will be reimbursed by the employers.
    • However, while contractors may be reimbursed, they usually incur costs whether or not work is being completed, for example, costs related to the operation of their own workspace.
    • In addition, a contractor does not receive protection or benefits from the company and is financially liable if the obligations of the contract are not filled.
  • Integration
    • The status of an individual can be determined by how integrated the person is with the organization they are completing work for.
    • For example, an independent contractor will likely have multiple clients, while an employee will only complete work for one company.
    • If the individual is the one who integrates the company’s activities into his or her schedule, the person is likely a contractor.

While it can sometimes be difficult to determine whether a relationship is employee-employer or a business relationship between a company and a contractor, the key question is often “What was the intent when entering into the agreement?”

To clarify this situation, contractors and companies should state the terms of the relationship in an agreement when the relationship begins. However, it is important that the actual terms of the agreement are followed by both parties. You can state that your relationship is a company-contractor one, but if you then act as employee-employer, the CRA may decide to treat you that way.

If you are in a situation where your independent contractor activities have been questioned by the CRA, or if you are a business that uses subcontractors and the CRA is questioning their role, it’s important that this situation is handled correctly. Contact us today for information on how our CRA tax experts can help.