Office and Employment Income

AuthorVern Krishna
ProfessionProfessor of Common Law, University of Ottawa Barrister at Law
“Classif‌ication i s the beginnin g of wisdom.”1
In this and the ch apters immediately following, we begin to parse income
according to its source. Section 3 specif‌ies the manner and sequence in
which income from each source f‌lows into the computation of net income.
Section 3 identif‌ies the following sources:
• Off‌ice;
• Employment;
• Business;
• Propert y;
• Capital gains; and
• Other income.
The section is mandatory and r igid, and neatly, but not easily, com-
partmentali zes the sources into segregated pigeonholes. Segregation by
source adds a considerable amount of complexity in the statute.
Employment income is the single largest source of government
revenues. Hence, tax revenues from this source play a cr itical role in
1 Edwin Rober t Anderson Seligman, D ouble Taxation and Intern ational Fiscal
Cooperation (New York: The Macmillan Company, 1928) at 58.
Off‌ice and Employme nt Income 119
government f‌inancing. Even a small leak in the taxation of employ-
ment income can have substantia l revenue consequences to federal and
provincial trea suries. Thus, we see the CRA f‌ighting cases i nvolving as
little as $300 all the way up to the Supreme Court of Can ada.
The employment income rules affect individuals, each of whom is
a potential voter. Thus, although the law is sensitive to the need for
government revenues, it must also be seen as fair.
There are three basic issues in the taxation of employment income:
1) Characterization: What is t he nature of the relationship that gives
rise to income?
2) Timing: When do we tax it?
3) Scope: What is tax able?
There are four distinguishing features of employment-source in-
come. First, deductions from employment income are strictly controlled:
subsection 8(2) prohibits the deduction of any employment-related ex-
pense unless t he Act specif‌ically authorizes it. This rule keeps a tight
rein on employment deductions. In contrast, we presume that deduc-
tions from business or invest ment income are acceptable if they com-
ply with commercial and accounting pr inciples. The presumption is
that business expenses are deductible unless the statute specif‌ically
prohibits them.2 Thus, deducting expenses again st business income is
much easier than again st employment income. This di fference between
business and employment income is a powerful incentive for taxpayers
to characterize t heir income as business income.
We withhold tax on employment income at source,3 and hold the
tax in tr ust for the Crown.4 In contrast, there is no systematic wit h-
holding at source on business income. Taxpayers who earn business
2 Income Tax Act, RSC 1985, c 1 (5th Supp) [ITA], subs 9(1); Royal Trust Co v MN R,
[1957] CTC 32 (Ex Ct) (payment of dues and mem berships in community and
social clubs on b ehalf of employees deductible where employe es expected to
make contact s and generate business); Dominion Taxicab As sn v MNR, [1954]
SCR 82 (fees to company contract ing with taxica b owners not deductible; funds
contingently rece ived not income); Bank of Nova Scotia v Canada, [1980] CTC
57 (FCTD), aff’d [1981] CTC 162 (FCA) (value of foreign ta x credit determined
in accordance w ith ordinary commerc ial principles, taki ng weighted rate of
exchange at ti me tax payable).
3 ITA, ibid, para 153(1)(a).
4 Ibid, subs 227(4). Failure to w ithhold tax on employment income rend ers the
employer liable to a civ il penalty of 10 percent plus intere st at a prescribed rate
(subs 227(8)) and to crimi nal penalties (subs 238(1)). Directors of a corporation
who fail to wit hhold and remit taxes may b e personally liable (subs 227.1(1)).
income must make instalment pay ments on account of their estimated
tax payable.5
Employment income is generally taxable on a cash ba sis.6 Business
and investment income are taxable on an accr ual or as-earned basis, no
matter when the taxpayer receives the income.7
Because of these restrictions on the computation of employment
income, individuals generally prefer independent contractor statu s for
tax purpose s. This distinction cause s some tension in the characteri za-
tion of employment relationships.
Hence, we must address six issue s:
• Is the taxpayer an employee?
• Does the taxpayer hold an off‌ice?
• Has the tax payer received remuneration or taxable benef‌its?
• What is the value of the remuneration or benef‌it?
• When did the taxpayer receive the remuneration or benef‌it?
• Is the taxp ayer entitled to any statutory deductions from employment
inc ome?
There is a fair volume of litigation concerning the nature of working
relationships. The issue occurs in d ifferent contexts — tax law, Canada
Pension Plan claims, Employment Insurance, and labour law. The doc-
trine of employee relationships has evolved, and continues to do so, as
working cond itions and workplace rel ationships change.
“Employment” is the position of an individual in t he service of some
other person.8 Thus, the f‌irst step in the character ization of employ-
ment income is to determine whether a contract of serv ice relationship
exists between t he taxpayer and the source of his or her income.
In traditional relat ionships, characterization depends on the degree
of control and supervision that a person exercises over another in the
provision of services. In a n employment relationship, the employee is
under the direct control and superv ision of the employer and is obliged
5 Ibid, subs 156(1).
6 Ibid, subs 5(1). There is an im portant exception for “salar y deferral arrange-
ments”; see para 6(1)(i), subs 248(1)”salary deferral a rrangement” and subs
7 Ibid, s 9.
8 Ibi d, subs 248(1).

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