Whether a worker is your employee or a genuine independent contractor is not decided by the label on the contract. The Canada Revenue Agency (CRA) looks at the real working relationship, and so do the courts. Calling someone a "subcontractor" and handing them an invoice means nothing if, day to day, they work like an employee. Get it wrong and you, the payer, are on the hook for the unremitted tax, both CPP shares, both EI shares, interest and penalties.
The CRA two-step approach (RC4110)
The CRA sets out its method in guide RC4110, "Employee or self-employed?". For work performed outside Quebec it is a two-step test:
- Intention. Did both parties intend a contract of service (employment) or a contract for services (a business relationship)? A written agreement helps, but it is only a starting point.
- Reality check. The CRA examines what actually happens on the ground to see whether it matches that intention. If the facts and the wording disagree, the facts win.
In step two the CRA weighs the real working conditions. The central factors are:
- Control: does the payer direct how, when and where the work is done, or does the worker set their own hours and methods?
- Tools and equipment: who supplies them? An employee usually works with the employer's tools; a contractor brings their own.
- Subcontracting and helpers: must the worker do the job personally, or can they hire a helper or sub the work out?
- Financial risk: is there a fixed wage with no risk of loss, or does the worker carry unreimbursed costs and a real chance of losing money?
- Investment and management: has the worker invested in their own business and do they manage it?
- Opportunity for profit: can the worker increase their profit by working smarter, or do they simply earn the agreed rate?
A self-employed person typically holds a GST/HST number, invoices clients, and carries the kind of overhead and risk a business carries.
The common-law tests: Wiebe Door and Sagaz
The legal backbone outside Quebec comes from two cases: Wiebe Door Services Ltd. v. MNR and 671122 Ontario Ltd. v. Sagaz Industries. The Supreme Court in Sagaz framed the whole question as one thing: is the person performing the services doing so as a person in business on their own account? No single factor decides it. The courts run through the Wiebe Door factors (control, tools, chance of profit, risk of loss), and where the parties did not share a clear common intention, the objective reality of the relationship governs. There is no official scorecard or points total. Anyone selling you a "points test" has invented it.
Quebec is different
Inside Quebec the CRA runs a three-step process, because the Civil Code, not the common law, defines employment. After looking at intention, the CRA asks whether a contract of employment exists under the Code, which turns on performance of work, remuneration, and a relationship of subordination, then it analyses the full working relationship. The factors look similar, but the legal frame is the Civil Code.
The dependent contractor: Canada's middle category
Canada recognises a third category that sits between employee and true contractor: the dependent contractor. A worker can be a dependent contractor if they are technically self-employed (they invoice, use their own tools, have no CPP or EI deducted) but earn substantially more than half their income from a single client, the relationship is permanent, and they do not actively chase other work. The Ontario Court of Appeal in Thurston v. Ontario (2019) held that "near-exclusivity requires substantially more than 50% of billings". Why it matters: a dependent contractor is owed common-law reasonable notice on termination, the same framework used for employees, which for a long-serving worker can run to many months of pay. In the 2025 BC decision Ursic v Country Lumber Ltd., the court confirmed there is no automatic discount to that notice just because the person was a dependent contractor.
The personal services business trap
If a tradesperson incorporates and then provides services to a single client who would, but for the company, be their employer, the CRA can treat the company as a personal services business (PSB) under the Income Tax Act. A PSB cannot claim the small business deduction, is taxed at the full federal corporate rate plus a surcharge, and loses most deductions, pushing the effective rate in Ontario to roughly 44.5%. The CRA has been applying this hard to incorporated contractors in construction and oil and gas. Incorporating does not, by itself, make you independent.
Why misclassification bites
Reclassification cascades across three streams. On the tax side, the payer becomes liable for all undeducted income tax, both the employee and employer CPP shares, and both EI shares, plus compound daily interest. On penalties, the CRA can add 10% of the unpaid CPP, EI and income tax, rising to 20% for a repeat failure in the same year. On the employment-standards side, a reclassified employee can claim back vacation pay, statutory holiday pay and overtime (typically up to two years retrospectively in Ontario), plus termination entitlements. Budget 2025 also let the CRA share classification data across programs, so a T5018 filing or a payroll audit can trigger a wider status review.
Common mistakes
- Trusting the contract label. A signed "independent contractor agreement" does not bind the CRA if the facts say employee.
- Same crew, year after year, your tools, your schedule. A site foreperson who invoices but works exclusively for you, with no risk and no other clients, is a textbook reclassification target.
- Assuming a company solves it. Incorporating a one-client arrangement can land you in the PSB trap instead.
- Skipping a CRA ruling when it is genuinely unclear. You can ask the CRA for a CPP/EI ruling on a worker's status before problems start.
Common questions
What test does the CRA use?
The CRA looks at the real working relationship, not just the contract: control (who decides how, when and where), who provides the tools, the worker's chance of profit and risk of loss, and how integrated the worker is. Its guide RC4110 sets it out, and Quebec applies its own Civil Code test.
I invoice them, so I'm a contractor, right?
Not necessarily. Invoicing and calling yourself self-employed does not settle it. If the payer controls your hours and methods, supplies the tools, and you work mainly for them, the CRA can still treat you as an employee, with back CPP and EI owing.
Why does it matter who is right?
Misclassification is expensive. If a contractor is found to be an employee, the payer can owe back CPP and EI for both shares, and the worker may be owed vacation pay, termination notice and other employment-standards entitlements.
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