It’s time we recognize the province of employment rules need fixing. I’ve written several times about these rules, (search my blog for ‘province of employment’) but always with a view to explaining what these are. Now I’d like to express an opinion on why the current rules don’t work very well.
The primary reason is the difficulty in explaining to employees the reasons why their employment income is taxed by one province when they live in another. When employees file their T1 or TP-1 returns in April, they owe provincial income tax based on their province of residence as of the prior December 31st. Yet, there are many situations in which employees, resident in one province may have source deductions and T4s prepared on the basis of another province entirely. The classic scenario is the employee who lives in Gatineau, Quebec, but crosses the Ottawa River each day to physically report for work in Kanata, Ontario.
Another problem is the many different variants on these rules. These variations from the common understanding are not often well explained or understood.
Where an employee reports to work – or in the absence of a physical reporting, where they are paid from – only applies to employment income as reported in Box 14 on the T4. Other forms of taxable income – primarily retiring allowances but also company pension benefits – are taxed based on where recipients reside at the time of payment. This means that what might have been the correct province of employment for salary and wages may be the wrong province for these other income types. Similarly, if the employer is non-resident in Canada, whether CPP or QPP applies is determined based on the employee province of residence.
Since employment income doesn’t lose its character just because the employment relationship has ended, the province of employment for taxable benefits may not be the same as a former employee’s province of residence. When an employee drives across the Ottawa River each day to physically report for work in Kanata, the province of employment is Ontario. If however, such an employee receives a company pension plan, for that purpose Quebec source deductions apply. If taxable benefits are provided during retirement, the province of employment for these is based on where employers process the related payrolls. For example, if an employer head office happened to be in BC, then that province would have jurisdiction over any taxable benefits, for source deduction purposes, since former employees no longer physically report for work to any employer establishment.
For most purposes, these rules don’t expressly describe what happens when an employee reports to work in multiple jurisdictions within a single pay period. There are many employees who travel frequently across Canada, reporting to employer establishments in multiple jurisdictions. The rules in the Income Tax Regulations for province of employment don’t expressly provide guidance in such situations. By contrast, for certain, but not all source deductions, Quebec does have explicit rules about when it claims jurisdiction over employment that spans several jurisdictions within a single pay period. These rules are quite complex and I’ve covered them previously.
Another variant is the basis on which Ontario and Quebec levy sales taxes – not GST, HST or the equivalent QST – but 8 or 9% provincial sales tax on group benefits. These rules are not very well known and, based on my experience, none of the major Canadian insurance carriers are compliant with all aspects of them. One of the peculiarities of these is that employees and employers may not owe sales tax to the same jurisdiction – the employee may be liable in Ontario, for example, but Quebec sales tax applies to employer contributions.
The final issue I would like to cover is the definition of permanent establishment. If an employee physically reports to work at an employer establishment, that location determines the province of employment. While there is no explicit definition of ‘establishment’ in the Income Tax Act or Regulations, most people reference the definition of ‘permanent establishment’ in section 400 of the Regulations.
The most problematic part of section 400, for our purposes is the reference to the use of “substantial machinery or equipment”. I once heard an Ontario Employer Health Tax representative explain that EHT applied where an employee made substantial use of a pencil, in performing his or her duties of employment. For Quebec source deduction purposes, similar language is found in interpretation bulletin IMP. 12-2/R3. The point is that both these provinces would like to understand this part of the definition as if it read “substantial use of machinery or equipment”. Unfortunately, that’s not quite what the words say. It’s clear that “substantial” refers to the physical attributes of the “machinery or equipment” in question, and not how important that use is to the employment duties performed.
That “substantial” refers to the physical attributes of “machinery or equipment” is how the courts have interpreted these rules. The most recent case, that of the Toronto Blue Jays baseball team in 2004 CanLII 14428 (ON SC), dealt with precisely this phrase. This Ontario court cited a much earlier Supreme Court of Canada decision that ‘the adjective “substantial” is intended to mean substantial in size’, explaining that this term should only be applied to the heavy machinery typically used, for example, in the construction industry. As such, the Ontario court said it was bound by this earlier Supreme Court of Canada understanding.
If the province of employment has these various issues, what alternatives are available? I would argue for aligning payroll source deductions and reporting with an employee’s ultimate T1 or TP-1 tax liability, the province where they reside. To be specific, this would mean the province where employees resided on the last day of each pay period. This would be much simpler to administer and would eliminate all of the anomalies described above.
In particular, it now happens that employers who don’t have an establishment in Quebec have employees there and the province of employment is either wrongly set to QC or there is difficulty remitting CSST premiums, since a CSST-only payroll remittance account is an infrequent exception for Revenue Quebec. In this situation, why cannot the employer remit any Quebec source deductions owing, including CSST premiums, through their CRA payroll accounts (BN numbers ending in RPxxxx), with the CRA passing on the relevant amounts to Revenue Quebec? The CRA has no trouble with the RQ collecting GST in Quebec on the CRA’s behalf. Why cannot the CRA collect Quebec source deductions on behalf of the RQ, from employers who are non-resident in that province? For example, such a non-resident employer could prepare RL-1s for Quebec residents, but file them with the CRA, when the employer has no permanent establishment in Quebec.
Alan McEwen is a Vancouver Island-based HRIS/Payroll consultant and freelance writer with over 25 years’ experience in all aspects of the payroll industry. He can be reached at firstname.lastname@example.org, (250) 228-5280 or visit www.alanrmcewen.com for more information.