Public Decision No. 99/2011
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This appeal deals with whether a firm should be liable for assessment premiums in respect of individuals with whom the firm has entered into contracts entitled "franchise agreements". A hearing was held on May 26, 2011 to consider the matter.
Whether or not effective January 1, 2010, franchise operators with combined employee earnings below the minimum level, should be considered workers of the franchisor.
Whether or not effective January 1, 2010, the franchisor's assessable earnings calculation should be based on 95% of the net labour percentage rate.
Franchise operators with combined employee earnings below the minimum level should be considered workers of the franchisor effective January 1, 2010
The franchisor's assessable earnings calculation should be based on 95% of the net labour percentage rate effective January 1, 2010.
The firm began operating a regional office in Manitoba in 1991. The firm is a franchisee of a Canadian company, which is in turn an international franchisee of an American company.
The firm's business operations involve selling janitorial franchise licenses. The firm describes its business model as follows:
- The firm sells franchise licenses to independent operators of cleaning businesses. Under the terms of these licenses, the firm also assists its franchisees to market their services, obtaining commercial cleaning contracts which they service.
- New franchisees pay an initial franchise fee and receive an agreed amount of initial monthly billings.
- Franchisees also receive an initial equipment kit including vacuum cleaners, floor maintenance machine and other cleaning equipment. All franchisees take part in a comprehensive training program intended to provide them with the information they need to operate a franchise cleaning business.
- Under the franchise agreement, all franchisees are required to register with the WCB.
- Franchisees are responsible for all aspects of the work related to the cleaning contracts they agree to service, including scheduling and delivery of cleaning services, provision of supplies and equipment, supervision of employees and customer service.
- Franchisees are free to accept or decline any contract offered to them. They are free to market their services to obtain additional work from their customers or new customers as long as their marketing efforts are coordinated with that of the regional office (ie. the firm).
- All cleaning work done by franchisees is subject to royalties and other franchise system charges. Under the franchise agreement, the firm collects all monies from cleaning clients on behalf of the franchisees. These fees are paid into a designated bank account, which is subject to conditions imposed on the firm by the Canadian franchisor company.
- Once the franchisees' volume has reached the amount of initial business described by their franchise agreement, additional cleaning contracts are subject to a finder's fee, based on a multiple of the monthly contract amount, usually a multiple of 2.5 to 3 times (for example, a cleaning contract for $1,000 per month would be subject to a finder's fee of $2,500 to $3,000).
- Franchisees are ultimately responsible for collections and unpaid or uncollectable billings. The firm provides administrative support only. It prepares monthly invoices as well as invoices for additional work once advised to do so by the franchisees. The firm prepares a monthly report for each franchise, detailing the billings issued and collected.
- The monthly report also details the royalties and other franchise system charges due from each franchisee. The current charges are as follows: Royalty - 10% of billings; Administration - 5% of billings; Business Fee - 1% of billings, and fees as noted above.
- The purchase of supplies and equipment from the firm is not mandatory. Franchisees also receive revenue for any supplies they have sold to their customers.
In 1994, the WCB determined that the firm's operations were incidental to the janitorial service industry and assessed the firm under rate code 706-02, "Janitorial Service" for 1993 and 1994. The firm challenged this assessment as it was of the opinion that it should not be required to be registered with the WCB as all of its activities were administrative and related to the sale of franchise licenses and placement of cleaning contracts.
The assessment was appealed to the Appeal Commission. In its decision dated August 1995, the panel stated:
Prior to rendering our decision, we requested a copy of the company's franchise agreement. A review of this agreement confirmed to us that the firm or franchisor exercised substantive control over the franchisee. In our view, this control factor was not unlike an employer-employee relationship. For example, we note, in particular, that all customer payments for service were to be paid directly to the franchisor (the firm), and various deductions are then made before the balance was paid to the franchisee. The firm's operations are, in our view, more than just incidental to the janitorial service industry, and are comparable to operations carried out by a cleaning company. Therefore, in our opinion, the firm should be required to register with the WCB under the same rate code and assessment rate as a compulsory janitorial service industry.
The firm's administrative staff were accordingly classified and assessed as workers in the compulsory janitorial industry.
In August 2008, the WCB initiated an audit of the firm for the years 2006 and 2007. After discussions with the firm, the audit determined that all un-registered franchise owners that did not employ workers were to be considered "deemed" workers of the firm. Assessments for deemed workers would be retroactive starting January 1, 2008. It was also determined that the labour percentage to be used would be 50% of gross earnings net of GST.
The firm disputed the determinations and appealed the matter to the Assessment Committee. By minutes dated March 19, 2009, Assessment Committee determined the following:
- Franchise operators that are not registered with the WCB are considered workers of the firm under The Workers Compensation Act. Therefore, they cannot register with the WCB as employers if they do not employ.
- The Assessment Committee is in agreement that the effective date for the retroactivity of the audit would be January 1, 2008.
- The firm cannot make deductions from unregistered franchise operators for WCB premiums.
This decision was appealed to the Appeal Commission. Meanwhile, between July and November, 2009 and before the file was heard before the Appeal Commission, the firm and senior staff from Assessment Services discussed various issues regarding the firm's file with the WCB. As a result of the discussions, Assessment Services decided that all of the unregistered franchisees must meet a minimum level of workers earnings in order to become registered as an employer with the WCB. The initial audit determined that all unregistered franchisees that do not employ workers were not eligible to register with the WCB.
The firm submitted another appeal to the Assessment Committee regarding the imposition of a minimum level. The issues of concern to the firm were described in the minutes dated November 19, 2009 as:
- Whether or not their franchisees can opt in or out of coverage with the Workers Compensation Board (WCB).
- Why the WCB requirements for eligibility must have a payroll in excess of $19,673 for 2009 and whether or not this is applicable to the franchisees.
- The firm asks that the Assessment Committee review the "control factor" used by the WCB to determine whether the franchisees are "deemed" workers or not.
The decision of the Assessment Committee was stated as follows:
The Assessment Committee agrees that all franchisees that do not meet the WCB requirement to be registered as employers or independent contractors are "deemed" workers of (the firm). (The firm) will be required to report 95% of the net earnings (the franchisees "take home" pay) less the GST. This will become effective January 1, 2010.
However, prior to January 1, 2010, (the firm) will still be required to report 50% of the gross earnings net of GST that are paid to all un-registered franchisees. This will be retroactive from January 1, 2008, based on the initial audit of October 2008. (This applies to points #1 and #2 above).
The Assessment Committee reviewed the "control factor" between the franchisees and (the firm), and agrees that (the firm) still has substantial control over their franchisees. This decision has not changed from the appeal dated in March 2009.
The November 19, 2009 decision was also appealed by the firm to the Appeal Commission. Although initially, there were four issues identified for appeal, at the hearing, the firm discontinued its appeal with respect to two of the issues.
Applicable Legislation and Policy
The Appeal Commission and its panels are bound by The Workers Compensation Act (the “Act”), regulations and policies of the Board of Directors.
Section 60(2.1) of the Act provides as follows:
60(2.1) Deemed worker and employer
Notwithstanding the other provisions of this Act, where a person who is not a worker under this Part performs work for the benefit of another person, the board may deem the first person to be a worker, and the second person to be the employer of the first person, within the meaning of this Act; and the board may determine an amount that shall be deemed to be the earnings of the first person, for the purpose of this Part.
WCB Policy 35.10.50, Status of Workers, Independent Contractors and Employers, (the "Policy") explains how the WCB determines a person's status as a worker, employer or independent contractor for the purposes of the Act. It also describes the circumstances in which the WCB will deem one person to be the worker of another.
There are two remaining issues on appeal. We will address each one separately.
- Whether or not effective January 1, 2010, franchise operators with combined employee earnings below the minimum level, should be considered workers of the franchisor.
The first issue before the panel concerns whether the franchisees are more akin to workers (and therefore are entitled to WCB coverage as deemed workers of the firm) or whether they are more akin to independent contractors (and therefore responsible for their own WCB coverage).
The firm's position is that its franchisees meet the WCB Policy 35.10.50 definition of independent contractor status, on the basis that its franchisees do not:
- Receive T4 income from the firm
- Provide work under the supervision or control of the firm
- Perform work that is an integral part of the firm's business
On the contrary, it is submitted that the franchisees do:
- Have a substantial investment in their franchise licenses and the tools of their trade, including equipment, vehicles and supplies and they supply and control the tools of their trade;
- Take financial risk, with the possibility of reward;
- Take jobs offered at their discretion, and complete as they see fit;
- Perform work for multiple clients that they are exclusively responsible for;
- Have the ability to provide janitorial services to other companies, if they so wish; and
- Take full responsibility for business expenses and taxes.
A number of other factors for determining whether a worker is an employee or an independent contractor were identified and the firm submitted that a proper weighing of the factors should lead the panel to find that the franchisees are independent contractors.
It was also noted by the firm that in 1997, the WCB reviewed one of the franchisee's operations and concluded that the franchisee was not a worker of the firm. It was submitted that the franchise agreement has not materially changed since it was reviewed by the WCB in 1995 and then again in 1997.
At the outset, the panel wishes to address the previous Appeal Commission decision dated August 11, 1995. We have given consideration as to whether we are bound by the earlier panel's comments regarding whether the firm exercised substantive control over the franchisee and whether the franchise agreement created an employer-employee relationship. In our opinion, the statements made by the previous panel do not constitute findings of fact which are binding on this panel. The previous decision was limited to determining the status of the administrative staff of the firm itself and the proximity of its own internal operations to the compulsory janitorial service industry. The earlier panel did not, nor was it required to, determine whether there was in fact an employer-employee relationship between the firm and its franchisees.
It then falls upon this panel to determine whether the status of a franchisee is more properly characterized as a worker or an independent contractor, in the limited context of WCB assessments. There is no doubt that the franchise agreement creates a unique relationship which does not fall squarely in either category. However, after considering the relationship as a whole, we are of the opinion that the relationship is sufficiently akin to that of employer-employee that the franchisees are properly deemed to be workers for the purposes of assessment under the Act.
In coming to this conclusion, the panel particularly notes the following:
- All janitorial servicing contracts are between the firm itself and the clients. The firm sets the contract amounts, drafts the terms, and signs the agreements.
- All accounting and handling of funds is done by the firm. The firm issues the invoices to the clients and the clients remit payment to the firm. Cheques are received by the firm, and while they are deposited into an account with trust conditions attached to it, the cheques are made out in the name of the firm, and not in the name of the individual franchisees.
- The firm then deducts its agreed upon percentages of the remittances, then forwards the balance to the franchisees. In the event that a client does not pay, it was submitted that it is the franchisee who bears the risk in that it does not get paid for the work it performed. However, the evidence at the hearing was that legal debt collection proceedings are ultimately controlled by the firm as only the firm's name is listed in the style of cause.
- The clients serviced by the franchisees ultimately belong to the firm. Although at the hearing, the firm insisted that the franchisees "own" the clients, the panel finds that the franchisees only own the right to service a defined number of contracts, and not the contract itself. This was evidenced by the facts that in the event a franchisee was not properly servicing a contract (whether by virtue of physical incapacity or by poor performance), the firm would then transfer that contract to another franchisee. Ultimate responsibility for ensuring the clients received the janitorial services it contracted for remains with the firm.
- The franchise agreement sets out a number of areas where the firm retains control over the franchisee's operations. The franchisee must wear uniforms, obtain approval of shop premises, obtain approval of business income and may not use equipment or supplies which are not pre-approved by the franchisor.
- The franchise agreement also provides that any innovations developed by a franchisee belong to the Canadian franchisor company, with no recompense to the franchisee for the idea.
- The franchisees are not allowed to perform work for any other customer outside of the franchise structure. If the franchisee finds a new client, that client must be referred to the firm and set up through the firm's administrative processes. The franchisee does not have to pay a finder's fee (which would normally be paid for by a new client), but is still required to pay royalties, administrative and other usual fees to the firm in respect of all billings to that new client. In this sense, the franchisees work exclusively for the firm.
Overall, as noted earlier, the relationship between the firm and its franchisees is unique and has many characteristics which are not typical of a traditional employer-employee relationship. The franchisees have many rights and responsibilities which an employee does not normally have. Ultimately, however, the panel is not prepared to find that the relationship is akin to an independent contractor situation. We feel that an ongoing transactional relationship between two equal bargaining parties, as would be expected in an independent contractor relationship, is not present. Although the franchisees accept the risk of non-payment, they do not control the contracts. They do not set the contract amounts. They do not own the clients. We do not feel that the franchisees are truly in business for themselves, with corresponding assumption of risk and possibility of reward. We therefore find that the franchise operators with combined employee earnings below the minimum level should be considered workers of the franchisor, effective January 1, 2010. The employer's appeal on this issue is dismissed.
- Whether or not effective January 1, 2010, the franchisor's assessable earnings calculation should be based on 95% of the net labour percentage rate.
The second issue concerns the proper labour percentage to be used when calculating the amount to be assessed as the earnings of the franchisees who have been deemed to be workers for the purposes of the Act.
When making its November 23, 2009 decision, the Assessment Committee expressed the following rationale:
The decision to use the 50% labour portion as opposed to 95% was based on an agreement between the WCB's Audit Unit and (the firm). This decision was based, in part, on a payment made by the subcontractors to (the firm) for a franchise fee. The Committee considered the fact that (the firm) determines what this fee is, and also makes deductions from the gross amounts allocated to their subcontractors that reflect material, supplies, finder's fees, etc. Therefore, it makes more sense to ignore all of these items and use the subcontractor's net earnings (i.e., their "take home" pay) less any GST, in the assessable earnings calculation. As the fees and charges will be removed from this amount, the original 95% labour percentage seems appropriate. This change will be effective January 1, 2010.
In its submission, the firm states that the Assessment Committee's reference to payments as "take home pay" is a completely inappropriate term in these circumstances. The franchisees have paid a substantial licensing fee (typically ranging from $10,900 to $32,900) to operate an independent commercial cleaning business, which has not been taken into consideration by the Assessment Committee. It was submitted that the amended 95% percentage is also at odds with the firm's pricing work sheets, which identify the labour portion of contracts with clients to be generally about 55% of the contract price. The 95% is also at odds with assessment determinations at 50% made in Ontario and the analysis conducted by the WCB's own auditor. Finally, it was submitted that the 95% does not acknowledge that there are significant costs associated with providing janitorial services, such as equipment and vehicle costs.
It is the panel's understanding that the 95% labour percentage is derived from Appendix B of the Administrative Guidelines applicable to the Policy. Appendix B consists of a Labour Percentage Schedule which addresses a wide range of industries and identifies what typically constitutes the labour portion of the total contract in industry. Thus for example, in the logging industry, there are two subcategories. In firms where the material supplied is a chain saw, the labour portion of a total contract is set at 85%. If the material supplied is major equipment, then the labour portion of the total contract is set at 25%. The labour percentage is meant to delineate how much of the cost of a contract goes to labour, and how much to materials.
It is also the panel's understanding that the percentages were determined after extensive consultation with the various industries and are representative of a typical contract in that industry. It remains open, however, for a firm to establish that its contracts differ from the labour percentage set out in the schedule. Accordingly, in order for the firm's appeal on this issue to succeed, the panel must find that the labour portion of the firm's contracts with its franchisees is an amount less than 95%. On a balance of probabilities, we are not able to make that finding.
At the hearing, the firm provided the panel with samples of the price calculation sheets it uses to arrive at a contract price to charge to clients for cleaning. On the left hand side of the page, considerations such as the type of flooring, the square footage, and the time required to clean the premises are identified. A labour rate of $10 (inclusive of payroll burden) per hour was then applied to arrive at a total monthly labour cost. This was then added to fixed costs (typically $5 for uniforms) to arrive at a sub-total.
On the right hand side of the page, mark up percentages are shown. The categories of these percentages were identified as follows:
- Insur. & WCB
- W/R Supplies
- Jan. Supplies
On the sample sheets, the percentages for royalties and admin/support are set at 10.0% and 4.5% respectively. Insurance/WCB was typically between 2 to 3%. Janitorial supplies ranged from 0 to 3 ½ %, with most being at 2 ½% After taking into account all of the mark-up percentages, the total mark-up was typically in the range of 39%. This percentage was deducted from 100% to create a factor of 61% which was then applied to the subtotal from the left hand side of the page. Using this calculation, the customer contract price was determined.
It was submitted by the firm that this calculation proved that the labour portion of its contracts was far less than the 95% which was used by the WCB. The panel does not agree with this assertion. The difficulty is that the price calculation sheets incorporate a formula which uses the estimated man hours to complete a job as one of the factors, but is not necessarily truly representative of the labour portion of the contract.
In the panel's opinion, it is more appropriate to examine the allocation between labour and materials in a contract by examining the inputs required on account of materials. The sample price calculation sheets identified the percentage for janitorial supplies as ranging from 0 to 3.5%. At the hearing, the firm was not able to identify any unusual or other additional material costs which may be incurred by its franchisees in carrying out cleaning contracts. The evidence was that the franchisees' operations and input costs would be similar to that of other medium sized cleaning companies in the market.
A number of price calculation sheets were reviewed in detail at the hearing exemplifying what the firm declared to be a good representation of its typical contracts. Based on our analysis and recognizing that there will be slight variations from contract to contract, the panel is of the opinion that the 95% rate set out in Appendix B fairly represents the labour percentage applicable to the amounts paid by the firm to its deemed worker franchisees. We therefore find that the assessable earnings calculation should be based on the 95% rate.
At the hearing, the firm expressed some confusion as to what constituted the net amount to which the labour rate should be applied. For the purposes of clarity, the panel finds that the 95% rate should be applied to the amount of funds which flow through to the franchisee from the firm, net of GST (i.e. the client contract price, less regularly recurring deductions). It is the panel's understanding that currently, this amount would be 84% of the contract price paid by clients to the firm. Assuming a client contract price of $100, we understand that the firm will deduct 10% on account of royalties, 5% on account of administrative support and 1% as a business fee. This leaves $84 and this is the amount, net of GST, which should be used as the net amount for assessment purposes, to which the 95% rate would apply.
For the foregoing reasons, we find that the franchisor's assessable earnings calculation should be based on 95% of the net labour percentage rate, effective January 1, 2010. The firm's appeal on this issue is dismissed.
L. Choy, Presiding Officer
A. Finkel, Commissioner
P. Walker, Commissioner
Recording Secretary, B. Kosc
(on behalf of the panel)
Signed at Winnipeg this 20th day of July, 2011