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When is an employee not an employee?

Image: www.theuncommonlife.com

Employees, and employers, frequently seek to paint the employment relationship in a manner that serves whatever goals they may have, in either their employment, or in the operation of their business. The writer has seen countless “Consulting Agreements” which merely attempt to clothe an employee with some characteristics of an independent contractor in the hope of either reducing taxes or avoiding Employment Standards Act responsibilities. However, there have been a number of instances where either the employee or the employer have been caught by this attempt to avoid obligations when the artificial classification of the relationship has resulted in either liability or a loss of benefits to one or other of the parties.

The characterization of an employment relationship was considered in detail in a recent decision of the Ontario Court of Appeal. In the case of Paul Downey v. Ecore International Inc., the plaintiff was an “employee” working for Ecore. The relationship was structured as a “consulting” arrangement with the parties signing a Consulting Agreement. There was a provision in that agreement that the plaintiff was required to execute a Confidentiality Agreement. This latter agreement contained a Form Selection Clause [the “FSC”] designating the courts of Pennsylvania as the appropriate courts to determine any dispute between the parties.

Some time after the execution of the agreements, the plaintiff invented a new type of product which, in accordance with his obligations, he disclosed to the employer. The parties executed an Assignment Agreement whereby the rights in that invention were transferred to the employer in exchange for a payment. However, the employee was obviously unsatisfied with that compensation as he commenced an action in Ontario, alleging a breach of the obligation to compensate him for that invention.

In response to the employee’s action, the employer terminated the Consulting Agreement and then moved to stay the employee’s action based on the jurisdiction clause in the agreement. The judge hearing that motion refused the stay, and the employer appealed.

The Court of Appeal framed the issues as follows:

  1. Was the motion judge wrong in concluding that the agreements between the parties were unenforceable for lack of consideration?
  2. If so, was the Confidentiality Agreement unenforceable as the employee was, in fact, never employed by the company?

The Court of Appeal first considered whether the motion judge was correct in concluding that the agreements were unenforceable for lack of consideration. It has long been a fundamental principle of contract law that a contract is only enforceable if there is something of value being exchanged between the parties (“consideration”). The Court of Appeal rejected the decision of the motion judge and decided that even though the employee’s management company had been interposed between the parties, the employee had, in fact, received the benefit under the agreements. The court looked behind the wording of the agreements at the “factual matrix” surrounding the execution of the agreements. This included the nature of the services being provided by the plaintiff pursuant to the agreements, and the nature of the payment for these services. The court relied on the motion judge’s finding that the interposition of the management company was solely a “means of advantaging his Canadian income tax position.”

The Court of Appeal found that all parties had acted as if the individual was an employee without regard to the interposition of the management company. For example, the plaintiff was sitting as a member of the management team and was required to personally commit to protecting the company’s intellectual property. The Court of Appeal could find no evidence in the record that the employer had ever changed this perspective of the relationship.

In order to protect itself, the company had included a provision in the Consulting Agreement that the plaintiff would personally perform all of the services being supplied under the agreement. He was further required to acknowledge that he would be “integral to the successful performance” of the services being provided under the agreement.

The separate Confidentiality Agreement was said to fill in the gaps in the Consulting Agreement concerning protection of the company’s intellectual property, and confirm that the plaintiff was bound by the provisions of that agreement. The Court of Appeal concluded that “the wording of the agreement and the overall factual matrix reveals that the de facto relationship…was between Ecore and Downey (as the employer and the employee)”.

Finally, the court rejected the motion judge’s interpretation as to the relationship among the parties as it would result in neither the employee nor his management company being bound by the confidentiality provisions. This, the court said, would be inconsistent with the demonstrated intention of the parties after they signed the agreements, as well as being inconsistent with “…sound commercial principles and good business sense”.

The court then concluded that the mutual promises contained in the Confidentiality Agreement were sufficient consideration for enforcement of all of the provisions of the agreement. If the covenants in the agreement were performed each party would, in fact, receive a benefit.

As a result, the Court of Appeal set aside the motion judge’s order and imposed a stay of the plaintiff’s action based on the Form Selection Clause in the agreement. The court also awarded the appellant its costs of $13,000.

The reasoning of the Court of Appeal is consistent with the trend over the last couple of years of imposing commercial reality on employment agreements. Much like a marriage agreement, employment agreements are signed when goodwill between the parties is at its highest, and neither can conceive of the possibility of divorce. It is only when employees are faced with the implications of these agreements when a relationship ends badly that one party or the other seeks to avoid the repercussions of agreements which they have signed. It is for that reason that any agreement that an employer seeks to include with a new employee should be drafted carefully, with adequate legal advice.

Earl Altman
Garfinkle, Biderman LLP

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Earl Altman

Legal consultant at EA Consulting
Earl Altman was a partner at Garfinkle, Biderman and now heads his own consulting firm. Earl has practiced commercial and employment litigation. Earl’s practice focuses on employment disputes, including acting for employees and employers in wrongful dismissal claims, and in breach of contract and breach of fiduciary duty claims. Read more
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