If your organization operates in Canada and you use independent contractors to augment your workforce and fill skills gaps at the Canadian branch, it’s important to understand the dangers of worker misclassification. There’s a lot of information out there on US guidelines, but when it comes to Canada, not so much. Yet independent contractor misclassification in Canada is a very real issue that can have serious consequences.
Independent contractors can take many forms, including freelancers, consultants and contract workers. That’s why it’s important to consider all classes of independent contractors when evaluating their eligibility and risk of independent contractor misclassification in Canada.
The challenge, as you know, is that since ICs are paid as vendors, it’s difficult to get a clear line of sight on your spend and headcount, as well as manage these workers efficiently.
If you’re familiar with the intricacies of misclassification in the US, this information will be particularly helpful because there are some significant differences between the two countries.
Misclassification in Canada has serious consequences
The Canada Revenue Agency, as well as a host of other federal and provincial agencies and ministries, are all motivated to question the status of your ICs. Demographic shifts and the rise of the freelance economy, not to mention the challenging economic climate caused by low energy prices, have put pressure on the federal and provincial tax base.
So it’s not surprising that there has been a rise in audits and investigations by these agencies as they scramble to recover lost income.
If you are found to have misclassified employees as independent contractors, you may be required to pay significant penalties, interest and legal fees, in addition to outstanding payroll deductions. Here are some of the costs you may incur:
- Penalties of 10% to 20% on unpaid Income Tax, EI and CPP premiums, plus interest;
- Workers’ compensation premiums, plus fines and interest;
- Unpaid Canada Pension Plan premiums (workers’ and employers’ share);
- Minimum wage, overtime, parental leave, vacation pay, and more;
- Potential claims for wrongful dismissal damages from early contract termination.
An “ironclad” contract is never enough
Some organizations believe that an ironclad contract is all it takes to avoid issues with the CRA and other agencies. They are lulled into a false sense of security, having invested heavily with the best legal minds in the country to cover all the bases. Unfortunately, it’s simply not enough.
When examining independent contractor misclassification in Canada, the courts have ruled that the contract and intent of the parties is only part of the equation: some say that contract and intent represent no more than half of the deciding factors.
There are a number of other factors that have considerable weight in determining if a worker is an employee or an independent contractor. To make matters even more confusing, the specific weighting of these factors will vary on a case-by-case basis depending on circumstances.
Four tests of independent contractor status in Canada
The Control test – This test looks at the organization’s degree of control over the actions of the worker, including whether it manages how, where and when the work is done, as well as the ability of the worker to hire others to complete the work.
The Economic Reality test – Here the concept of financial risk (the ability to earn a profit or incur a loss) is front and center.
If payment is by the hour, day or week, for example, instead of the achievement of a fixed contract amount, the worker starts to look like an employee.
Related to this is the question of whether or not the individual bears all the costs related to the work. If there is a risk of financial loss or an opportunity for profit, then the worker would appear to be an independent contractor.
The Fourfold test or Entrepreneur test – This test looks at four specific dimensions to determine if there is an employer-employee relationship. It is a combination of elements from the first two tests. These four dimensions are:
- Degree of control over the worker;
- Ownership of tools and equipment;
- Chance of profit;
- Risk of loss.
Integration in the organization – This test examines a worker’s role, the nature of their work and whether or not they are an integral part of the organization.
Only in Canada: dependent contractors
Something that is unique to Canada is the concept of a dependent contractor, an individual who is exclusively and totally dependent on your business. A dependent contractor, unlike an independent contractor, would be entitled to severance should his or her contract be terminated.
What you can do to mitigate your risks
Inventory your ICs – Get a full and detailed view of who your independent contractors are, what they’re doing and how much they’re getting paid. Visibility is the first step to risk mitigation. It’s also the first step to effectively containing your workforce costs.
Evaluate their eligibility – An in-depth analysis of each worker should be conducted to ensure they are eligible to be classified as an independent contractor. A questionnaire or cursory overview is not enough. A detailed analysis is essential.
Relinquish control – Don’t direct how and when your ICs do the work. Focus instead on the outcome of the contract rather than the manner in which the work is conducted. This may require a new and revised contract that avoids things that would indicate control.
Create an arm’s length relationship – A simple and affordable way to avoid misclassification in Canada, as in the US, is to get a contingent workforce management solutions provider to engage contractors on your behalf. You get the added benefit of streamlining the management of your contingent workforce throughout the contract lifecycle.