Updated June 16, 2020
The most common mistake SMEs (small to medium-sized enterprises) make is hiring employees without signing a written employment contract. Why? Because without a written employment contract, courts will impose obligations you would not have considered taking. Before how I explain how those obligations may cost you tens of thousands of dollars (Yes, I said TENS of THOUSANDS), you need to understand how little control you have once employees start working for you.
What does this mean? Even if you do not sign a written employment contract, courts will impose contractual obligations on both parties. In the absence of a written contract, courts have determined that either a verbal contract or one created through conduct will govern the relationship. Do contracts created by conduct exist? Yes. If someone starts showing up at your office, and you pay them to be there, even if nothing was ever discussed between the employer and employee, a contract was formed. How do courts determine contractual obligations when no written contract exists? Good question! If you entered into a verbal contract or a court determines that an employment contract came to exist by conduct, judges will read or listen to the parties' testimony. This means the judge will listen to your testimony AND that of the aggrieved employee. Trust me; these two versions will be vastly different. The judge will then decide which one is true (whether that is actually true or not) and render a decision. If this raises alarm bells, you are starting to understand the extent to which written employment contracts are important. Why let a court decide on the provisions of your employment agreement with your employees? Why let a court impose obligations you or your employee never intended to accept? So how can this cost you tens of thousands of dollars?
Before I discuss the cost of liability, we must review termination. You have two ways to terminate someone. The first is with just cause. If an employee is insubordinate, insolent (provided the incidents are serious enough), conduct illegal activities, and so on, you can terminate with cause. Determining whether an incident is serious enough to terminate with just cause can be a bit tricky, so you should consult a lawyer if you are considering this option. If you don't get it right, and the employee takes you to court, you will likely be liable for severance pay. The judge may determine, while you had some cause to discipline, the cause was insufficient to justify termination. The judge could rule the employee was entitled to notice of termination (more on this below). If you must terminate someone with cause, that employee is a liability to the business. You must terminate. But, what do you do with the employees who just don't fit in? Or what happens when you need to downsize?
Then you terminate without cause. If you terminate without cause, you must provide the employee with adequate notice. The notice is calculated in time (i.e. two weeks' notice). Most employers, however, prefer to pay out the notice period rather than give an employee the required notice period. In all provinces in Canada, laws exist outlining the minimum amount of notice an employer must provide. I reproduce the notice provisions in Manitoba's Employment Standards Code below. They can be found here, in the Employment Standards Code. For example, if you terminate an employee with seven years of employment, you must provide six weeks of notice. But that is just the start.
If you do not have a written employment contract outlining or limiting the notice period, then Common Law applies. Judges establish Common Law. Over the years, lawyers have litigated employment contracts, and a variety of rules have developed. There is no clear formula, but judges now consider such things as:
Ultimately, an employee with ten years of service may be entitled to between six months and a year of notice. Let that sink in for a few moments. While The Employment Standards Code outlines a maximum notice period of eight weeks, that is simply the minimum amount. A judge could quadruple that amount.
Fortunately, it's not all doom and gloom. You can limit the notice period in a written employment contract to the minimums found in The Employment Standards Code. You can't, however, contract out of the minimums. Even if you try to include a provision in the contract stating that you can terminate without cause without providing any notice period, a court will find that provision invalid. You are stuck with the minimum. The minimum notice period is still significantly better than the alternative. Let's use a scenario to illustrate:
You are the owner of an advertising company. You have two marketers that have been with you since you opened the agency 12 years ago. Due to increased competition, your business is suffering. You conclude you must lay off one of the marketers. You pay your marketers $20.00 an hour, which works out to $3,200.00 a month. Under The Employment Standards Code, you must pay him two months of salary = $6,400.00. Not an easy sum for someone whose business is struggling. However, $6,400.00 does not satisfy your employee, so he takes you to court. After hearing two days of testimony, a judge concludes based on your employee's limited education (grade 12), age (38 years old), and limited prospects of finding new employment, you must provide him with eight months' notice. As that employee has already left, you must now come up with an additional $25,600.00... $25,600.00 = common law imposed notice v. $6,400.00 contract limited notice = $19,200.00 saved. You will notice that I used a situation where the business had to downsize due to economic pressure in my example. The reason for terminating someone only matters if you terminate with just cause. Terminating someone for any other reason, such as "fit," not-the-right-person-for-the-job, or even economic pressure, falls into termination without notice. Your economic reality is irrelevant.
A written contract can also provide you with protections such as confidentiality and non-competition and non-solicitation clauses. These heads offer a more limited level of protection. However, they can also save your business significant hassle and money.
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