Contractor vs. Employee: The Most Dangerous Payroll Mistake

In an effort to reduce administrative burden and avoid paying CPP and EI premiums, many business owners attempt to hire workers as "independent contractors" rather than employees. The practice is widespread — health clinics hiring associate therapists, salons renting chairs, IT firms hiring developers. But simply drafting a contract that labels a worker an "independent contractor" offers no protection if the factual reality of the relationship resembles employment.

The CRA's evaluation criteria

The CRA does not rely on the written contract. They examine the total working relationship using a multi-factor test:

• Control: Does the employer dictate the worker's schedule, specify how the work must be done, and require attendance at meetings? The more control, the more likely the worker is an employee.
• Tools and equipment: Who provides the tools? An employee typically uses employer-provided equipment (computer, dental chair, specialized software). An independent contractor usually invests in and provides their own tools.
• Subcontracting: Can the worker hire someone else to do the job? Employees must perform the work personally; contractors generally have the right to hire a subcontractor.
• Financial risk and opportunity for profit: Does the worker have fixed ongoing costs? Can they lose money on the job? Employees are paid a guaranteed wage; contractors bear financial risk (e.g., paying rent for a salon chair regardless of bookings) and have the opportunity to increase profit through efficiency.

The consequences of misclassification

If the CRA determines your "independent contractors" were actually employees, the financial penalties are severe:

• Both employer and employee shares of unremitted CPP contributions
• Both employer and employee shares of unremitted EI premiums
• Income tax that should have been withheld at source
• Significant penalties and interest on all of the above, retroactively for several years

Misclassified workers may also have claims under provincial employment standards for vacation pay, overtime, and severance.