Incorporation of an Independent Contractor

Contact Neufeld Legal PC for your incorporation legal work at 403-400-4092 or Chris@NeufeldLegal.com

Many job opportunities in the resource sector in Alberta (e.g., oil and gas, mining} are only available to you as an independent contractor (as opposed to an employee), with the principal company further requiring that as an independent contractor you provide your services through a corporation, which contracts with the principal company. As such, as part of accepting the work assignment, not only will you need to review and sign off on the independent contractor agreement, but also incorporate an appropriate corporation to perform the work.

The key reasons for an independent contractor to incorporate and provide their services through the incorporated company at the behest of the principal company, include:

A. Mitigating Employee Misclassification Risk (for the hiring company)

• This is arguably the biggest reason. The Canada Revenue Agency (CRA) and provincial labour boards (like Alberta's Employment Standards) have strict rules to determine if a worker is an employee or an independent contractor. If a company treats a worker as an independent contractor but the CRA later determines they are, in fact, an employee, the consequences for the hiring company can be severe:

  • Back-pay for Statutory Benefits: The company could be liable for unpaid Employment Insurance (EI) premiums, Canada Pension Plan (CPP) contributions (both employer and employee portions), vacation pay, statutory holiday pay, and overtime.

  • Penalties and Interest: Significant fines and interest can be levied on top of the unpaid amounts.

  • Legal Disputes: Misclassification can lead to costly lawsuits for wrongful dismissal, severance, or other employee entitlements.

• When a contractor is incorporated, it strongly signals that they are an independent business. The corporation is a separate legal entity providing services, which makes it much harder for the CRA or a labour board to argue that the individual behind the corporation is actually an employee of the hiring company. It helps establish an arm's length, business-to-business relationship.

B. Limited Liability and Risk Transfer (for the hiring company)

• Reduced Direct Liability: When contracting with an incorporated entity, the hiring company deals with the corporation, not the individual personally. This limits the hiring company's direct liability for the contractor's actions. If the contractor causes damage or is negligent, the claim is typically against their corporation, not the hiring company directly (though the hiring company might still be named in a lawsuit if they were negligent in their own right).

• Proof of Professionalism: An incorporated contractor is more likely to carry their own professional liability insurance, general liability insurance, and potentially WCB coverage (or private equivalent), which further protects the hiring company by ensuring the contractor has adequate coverage for their own risks.

C. Simplicity in Administration (for the hiring company)

• No Payroll Obligations: When hiring an incorporated contractor, the company doesn't need to put them on payroll. This means no deducting income tax, EI, or CPP, and no issuing T4 slips. The company simply pays an invoice from the contractor's corporation.

• GST/HST Remittance: The incorporated contractor, if they meet the revenue threshold, will register for and collect GST/HST, simplifying tax remittance for the hiring company as well.

• Clearer Deductions: Payments to an incorporated contractor are typically clear business expenses for the hiring company, simplifying their accounting.

D. Perception of Professionalism and Capacity

• Serious Business: Dealing with an incorporated entity often gives the perception that the contractor is a more serious, organized, and established business, rather than just an individual offering services.

• Scalability: It can imply that the contractor has the potential to scale, hire employees, or take on larger projects through their own corporate structure.

Benefits for the Independent Contractor (the individual being asked to incorporate)

While the primary motivation for the hiring company is protection, incorporation also offers significant advantages to the independent contractor:

• Limited Personal Liability: This is just as important for the contractor. It separates personal assets from business risks.

• Tax Advantages:

  • Lower corporate tax rates (especially with the Small Business Deduction).

  • Tax deferral opportunities.

  • Potential for income splitting (within CRA rules, subject to "TOSI" rules for related services).

  • Access to the Lifetime Capital Gains Exemption on the sale of shares.

  • Ability to deduct a broader range of business expenses.

• Enhanced Credibility: Makes it easier to secure contracts with other clients who may also prefer incorporated entities.

• Professional Image: Presents a more professional image to all clients.

• Business Expenses: Allows for clear separation and deduction of business-related expenses (home office, equipment, professional development, etc.).

Important Considerations for the Independent Contractor

• Personal Service Business (PSB): A significant pitfall for incorporated contractors is being classified as a Personal Service Business (PSB) by the CRA. This typically happens if the incorporated contractor provides services to only one client, and if that individual would otherwise be considered an employee of the client if they weren't incorporated. PSBs face much higher tax rates and limited expense deductions, negating many of the benefits of incorporation. It's crucial for contractors to ensure they truly operate as an independent business (multiple clients, provide own tools, control over work, risk of profit/loss).

• Increased Administrative Burden and Cost: Incorporating involves initial setup fees, ongoing annual filing requirements, and typically higher accounting fees compared to a sole proprietorship.

• Professional Advice is Crucial: Any independent contractor considering incorporation should consult with an accountant and potentially a lawyer to understand the full implications, ensure compliance, and optimize their business structure for their specific circumstances.

In summary, the request for independent contractors to incorporate in Alberta is a strategic move by the principal company to protect itself from legal and tax liabilities associated with misclassification, and to streamline its administrative processes, among other commercial advantages associated with not creating an employer-employee relationship, while also offering tangible benefits to the contractor (not the least of which is attaining paid work, as that is the requirement of the principal company).

As such, when you're looking to take on work as an independent contractor that requires you to incorporate and operate through a corporation, you would be well served by seeking the professional services of an experienced corporate lawyer. For incorporation and other relevant legal service for independent contractors in Alberta, contact our law firm  at 403-400-4092 or via email at Chris@NeufeldLegal.com to schedule a confidential initial consultation.

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