What Is a Personal Services Business, and Why Does CRA Care?
How Canada's personal services business rules can affect an incorporated consultant, the employee-versus-contractor facts CRA examines, and what records to review before filing.
Quick answer
What Calgary business owners should know
- A personal services business can exist when an incorporated worker would reasonably be considered an employee of the client if the corporation did not exist, subject to statutory exceptions.
- The analysis depends on the real working relationship, not only the wording of the contract or the fact that invoices are issued.
- PSB income faces restricted deductions and a different corporate tax result from ordinary active business income.
- Review control, tools, financial risk, ability to hire help, investment, responsibility, and opportunity for profit using evidence from the full relationship.
Start with the incorporated-employee test
The Income Tax Act uses the concept of an incorporated employee. In simplified terms, ask whether the individual performing the services would reasonably be considered an employee of the client if the corporation were removed from the arrangement. Exceptions can apply, including where the corporation employs more than five full-time employees throughout the year or provides services to an associated corporation, but the exact statutory conditions matter.
A signed independent-contractor agreement is relevant but not decisive. CRA guidance examines the whole relationship, including who controls how and when the work is performed, who provides tools, whether the worker can subcontract, the worker's financial risk and investment, responsibility for management, and the opportunity for profit. Evidence should match the written agreement.
Why the classification changes the return
A corporation carrying on a personal services business is generally not eligible for the small-business deduction on that income and faces limits on deductible expenses. The allowed deductions are narrower and include specific remuneration and employment-related amounts. A tax plan built on ordinary active-business treatment can therefore produce a material balance when PSB rules apply.
The risk is not limited to one-person technology consulting. Engineering, management, health, construction, transportation, professional, and other service arrangements can raise the question when one client controls a relationship that resembles employment. Multiple clients help the factual picture but do not create an automatic safe harbour.
Practical checklist
- Compare the contract with the day-to-day working relationship.
- Keep evidence of business development, insurance, tools, subcontractors, and financial risk.
- Identify revenue by client and review long, exclusive, or renewed engagements.
- Model tax and remuneration before the T2 is finalized, not after an assessment.
What to review before accepting or renewing a contract
Before signing, review who sets schedules and methods, whether substitution is genuinely permitted, who corrects deficient work, how fees are earned, who bears expenses, whether the consultant serves the market, and how termination works. Do not add clauses that the parties will not follow. Operational independence must be real.
Classification can also affect payroll and GST/HST outside the corporation's income-tax result. When the facts are mixed or the contract is material, coordinate tax and legal advice. Record the conclusion and revisit it when the scope, client concentration, location, equipment, or control changes.
Official sources
This guide was prepared from the official sources below. Open them to verify the current rule and review exceptions relevant to your situation.
