Tax traps for the self-employed

Know your employment status to avoid a surprise tax bill

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Q: I worked for my Dad’s lawn care sole proprietorship business as a summer student. His accountant said because I’m a student and wouldn’t be paying any income tax and that I could be paid as a “contractor” and therefore paid no deductions.

The company issued me a T5018 for $7,300.

I also worked for another company and paid a total of $518 in income tax.

When I’m doing my taxes, it says I owe money! How could I owe money when I earned less than $12,000? Did my parents get bad advice?

—Jordan

A: I want to raise a few points with you, Jordan.

CRA provides an important distinction between employees and contractors. Employers often prefer contractors over employees because they don’t have to worry about payroll tax, benefits or other obligations. Workers often prefer to be self-employed contractors because there may be more tax deductions available to them – legitimate deductions or otherwise.

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However, CRA looks at four primary tests to ensure a contractor is, in fact, a contractor, namely:

1. Control

If you did landscaping work only for your father and he provided clear direction on the work you did, you may have been an employee.

2. Ownership of tools

If your father drove you to the job sites and provided the landscaping equipment you needed to do your job, you may have been an employee.

3. Chance of profit or risk of loss

If your compensation was a guaranteed hourly rate as opposed to a fee for performing a certain task, you may have been an employee.

4. Integration

If your role was an integral part of the daily landscaping business, namely, working alongside your father on the job, you may have been an employee.

If you were an employee, Jordan, you probably should have been paid through payroll with a T4 slip and tax withholding instead of a T5018 slip and no tax. You would have been subject to Canada Pension Plan (CPP) contributions if you were 18 or older, but not Employment Insurance (EI) contributions. If someone owns more than 40% of a company and employs a family member, that family member would be EI exempt because they are not dealing at arm’s length. It helps prevent abuse of the EI system amongst family members.

The T5018 slip you received, Jordan, is typically used by companies in the construction industry to report income paid to subcontractors. “Construction activities” are defined in the Income Tax Act to include, but not be limited to “activities relating to the erection, excavation, installation, alteration, modification, repair, improvement, demolition, destruction, dismantling or removal of all or any part of a building, structure, surface or sub-surface construction, or any similar property.”

According to Landscape Ontario, “a number of our members have received forms from Revenue Canada (Form T5018) and have been told that they were required to record payments they make to subcontractors who provide construction services and report these payments to the Department of Revenue. It is Landscape Ontario’s belief that this requirement does not apply to the landscape industry. A careful read of these facts sheets clearly show that the landscape industry is not required to fill out the forms.”

So the T5018 slip may not be the right form in your case, Jordan, but that’s more of an issue for your father, not you.

The main reason for the tax you owe is because you have almost $12,000 of combined employment and self-employed income and I suspect you are 18 or older and should be paying $723 of CPP contributions on your self-employment income from your father. If you were an employee, half of this CPP payable would have been withheld from your pay and the other half paid by your father (the employer portion).

So while the accountant’s advice is likely true in that you don’t probably don’t owe any “income tax” per say, you probably owe “CPP contributions payable” and therefore have a balance owing. Tax owing is tax owing though and I can understand your dismay, but I think this balance due is likely legit – though your self-employment relationship with your father and your tax slip may not be.

Jason Heath is a fee-only, advice-only Certified Financial Planner (CFP) at Objective Financial Partners Inc. in Toronto, Ontario. He does not sell any financial products whatsoever.

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