This debate crosses many industries as, more and more, employers try to “hire” staff as independent contractors instead of as regular employees, while some workers prefer to remain “freelance “workers over regular staff.
There are several layers of labour and taxation law implications to the distinction between an incorporated worker and an employee, and the information below is strictly “rule-of-thumb.” If you are facing the decision to choose between T4 vs incorporated, you must consult an employment lawyer immediately as this decision changes how you file your taxes, how much you pay in tax, your workplace rights, and so much more. If you classify yourself as one instead of the other, but the CRA disagrees, you could be facing a hefty tax bill and possibly interest and penalties on top.
T4 vs Incorporated: A Basic Overview
When we discuss “T4 vs incorporated,” we’re comparing two fundamentally different ways of receiving and managing income. T4 income refers to the salary or wages earned by an individual employed by a company. This income is reported on a T4 slip for tax purposes in many countries, including Canada. On the other hand, incorporation involves creating a separate legal entity (a corporation) through which business activities are conducted. The individual may draw income from the corporation in various forms, including salary, dividends, or a combination of both.
T4 Employment Income: Pros and Cons
T4 employment income is straightforward. As an employee, you receive a regular paycheck, usually with tax deductions at source, meaning taxes are taken out of your pay before you receive it. This simplicity is a significant advantage for many, as it eliminates the need for complex tax planning or accounting. Additionally, employees often receive benefits like health insurance, paid vacations, and pensions.
However, T4 employment also has limitations. Your income potential is generally fixed by your salary or hourly wage, and there may be fewer opportunities for tax deductions. Also, as an employee, you are subject to the rules and structures of your employer, which may include limited flexibility in work hours or conditions.
Incorporation: Advantages and Considerations
Incorporation offers different advantages. Firstly, it provides liability protection. As a separate legal entity, a corporation can own assets, incur debts, and be liable for its actions, separate from its owners (shareholders). This separation can protect personal assets in case of business liabilities.
Secondly, corporations often benefit from lower tax rates compared to personal income tax rates. This can be particularly advantageous for higher earners. Additionally, a corporation can retain earnings to reinvest in the business, which can be a powerful tool for growth.
Incorporation also offers more flexibility in how you pay yourself – through salary, dividends, or a mix of both – each with its own tax implications. This flexibility allows for more sophisticated tax planning strategies.
However, incorporation comes with its complexities. It requires setting up and maintaining a separate legal entity, which involves costs and administrative work. Tax filing for corporations is generally more complex than for individuals. There’s also the need to adhere to corporate governance rules and regulations.
Choosing the Right Path
Deciding between T4 employment and incorporation depends on various factors. If you value simplicity, stability, and are comfortable with a fixed income, T4 employment might be more suitable. Conversely, if you are willing to navigate more complexity for potential tax advantages and greater flexibility in income management, incorporation could be the right choice.
Always speak to an employment lawyer before making that choice, however.