Contractor vs Employee: What You Really Need to Know (Canada & U.S.)

Hiring someone as a contractor might seem easier. Less admin, no payroll taxes, more flexibility, right? But if you're treating them like an employee… and calling them a contractor… you could be setting yourself up for a pretty expensive mess.

This actually happens a lot. Especially with startups and small businesses trying to scale fast. So let’s break down the contractor vs employee basics in a way that actually makes sense—no legalese, we promise!

Contractor vs Employee: What It Really Means

Here’s the simplest way to think about it:

• Employees work for you. You control their hours, tools, priorities, and often provide things like a laptop or work email.

• Contractors work with you. They're independent. They decide how / when they work, often use their own tools / laptop, and ideally have other clients too.

Common Red Flags That You’re Actually Hiring an Employee

Whether you're in Canada or the U.S., here are a few things that can tip the scales:

• You provide them with a company laptop or tools

• You expect them to work specific hours or attend regular team meetings

• There's no clear end date to the engagement

• They're working full-time hours, exclusively for you

• You require them to ask permission for time off

If this sounds like your setup… they're probably acting more like an employee.

U.S. vs. Canada: Any Differences? 🇨🇦🇺🇸

There are different legal tests in each country, but the overall concept is the same: control, dependency, and exclusivity matter.

• In Canada, the CRA uses a "control and integration" test. If you control how the work gets done, and the worker is integrated into your business, they’re likely an employee.

• In the U.S., the IRS and DOL both have their own tests (because of course they do), but again: control, financial dependency, and permanence are big factors.

What If I Don't Have a Legal Entity in Their Country? 🌍

If you're a Canadian company hiring a U.S. contractor (or vice versa) without a legal entity there, your risk goes down—but it's not zero. Misclassification can still backfire if:

• You treat the contractor like an employee

• They later file a claim for benefits, back pay, or taxes

• You expand into that country and regulators start reviewing your past practices

Bottom line: not having a legal entity helps, but it's not a get-out-of-jail-free card.

What’s the Actual Risk? ⚠️

If you're found to have misclassified an employee as a contractor, here’s what you might face:

• Back pay for wages, vacation, and overtime

• Retroactive employer contributions (like CPP, EI, Social Security, Medicare)

• Interest and penalties on unpaid taxes

• Fines (in Canada, penalties can hit 10-20% of amounts owed; in the U.S., fines can include 100% of unpaid taxes plus additional penalties)

So when would this actually come up? Usually if:

• The contractor files for unemployment or workers' comp and is denied

• They apply for benefits and list your company as their employer

• They get let go and file a claim out of frustration or misunderstanding

• A tax audit or employment standards investigation uncovers misclassification

It doesn't happen all the time. But when it does, it can be expensive, time-consuming, and a big headache.

So... Can I Just Hire Everyone as a Contractor? 🤔

Short answer: only if you're cool with the risk. Which some companies are! Especially early-stage startups. But others want to play it safe.

Final Thoughts 💬

At the end of the day, it comes down to your company’s risk tolerance. But remember, just because you call someone a contractor doesn’t mean the CRA or IRS will agree.

Have questions? Need help thinking it through for your business? That’s what we’re here for—reach out.

Bonus Tip: 💡 If you want the flexibility of a contractor without the risk, consider using an Employer of Record (EOR). It’s like a legal buffer that hires on your behalf—worth a look if you’re expanding across borders.