Business Relationships Within the Professions: Selected Business and Legal Issues. by Dale W. Wilcox, LL.B. Vancouver

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1 Practice Resources Business Relationships Within the Professions: by Dale W. Wilcox, LL.B. Vancouver The following article was prepared by Dale W. Wilcox, LL.B., of Vancouver, and was first published by the Canadian Tax Foundation ( as part of its 1995 Conference Report. Dale Wilcox graduated from UBC law school and was called to the BC bar in During his university years, he was the recipient of numerous prestigious awards and scholarships. Since his call to the bar, he has worked with both small and medium-sized firms, including heading up a corporate and commercial department totalling approximately 24 lawyers and an equal number of support staff. Mr. Wilcox started his own practice in Vancouver in 1990 and the firm currently employs two additional lawyers. Mr. Wilcox s preferred areas of practice are commercial, corporate, securities and real estate matters (including development, conveyancing and mortgage work).

2 Table of Contents The Employed Professional... 1 General...1 Legal Aspects of the Employer-Employee Relationship...1 Legal Considerations on Becoming an Employee...4 Legal Considerations on Ceasing to be an Employee...6 Business Aspects of the Employer-Employee Relationship...7 Business Considerations on Becoming an Employee...7 Business Considerations on Ceasing to be an Employee...9 The Professional as a Sole Proprietor... 9 General...9 Legal...9 Legal Considerations on Becoming a Sole Proprietor...11 Legal Considerations on Joining a Cost Sharing Group or Association...14 Business...16 Business Considerations on Becoming a Sole Proprietor...16 Business Considerations on Joining a Cost Sharing Group or Association...16 Business Considerations on Ceasing to be a Sole Proprietor...19 Business Considerations on Leaving a Cost Sharing Group or Association...19 Professional Partnerships General...20 Legal...20 Legal Considerations on Joining a Partnership...23 Legal Considerations on Leaving a Partnership...23 Business...23 Business Considerations on Joining a Partnership...23 Business Considerations on Leaving a Partnership...29 Management Corporations and Management Limited Partnerships General...30 Legal...31 Business...32 Professional Limited Liability Companies What Are They? General...33 LLCs and the Professions in the United States...35 Professional LLCs Do They Have a Future in Canada?...35 Notes The Law Society of British Columbia June, 2002

3 The Law Society of British Columbia 2 June, 2002

4 Most modern day professionals, particularly those engaged in private practice, participate in a number of business relationships during the course of their professional life. This paper addresses selected business and legal issues of concern to professionals joining and leaving professional groups or starting or winding up their own businesses and, in addition, contains a brief discussion of limited liability companies, a new form of business entity presently gaining popularity among the professions in the United States of America. The Employed Professional General Most professionals commence their careers as employees of professionals or professional firms. In the case of professionals in training such as articled students, the rules and policies adopted by the internal governing bodies of most professions require that the professional in training be employed by a professional or professional firm for a minimum period to qualify for admission as a fully fledged member of the profession. Many newly qualified professionals obtain employment with another professional or a professional firm in order to gain additional expertise and experience and to establish their own client base prior to commencing their own business or joining a professional firm as a partner. For personal reasons some professionals, particularly those who do not wish to take on the financial and other obligations associated with operating their own business or becoming a partner of a professional firm, elect to continue in private practice as employees indefinitely. Others elect not to engage in private practice at all and are employed directly in private industry or government. Legal Aspects of the Employer-Employee Relationship The laws and rules governing the employer-employee relationships of professionals in the common law provinces of Canada emanate from a number of sources. First, depending upon the profession involved and the industry in which the professional is employed, federal or provincial employment and labour legislation of general application may apply. Second, most professions are regulated by specific provincial legislation and administered by internal governing bodies which adopt rules and policies applicable to the profession in general. In some instances, the legislation governing a particular profession or the rules and policies adopted by the profession s internal governing body contain specific provisions applicable to the employment of professionals within that profession. Third, to the extent that they have not been displaced by specific legislative provisions, common law and equitable rules and principles applicable to master-servant/employer-employee relationships, in particular the rules and principles of the law of contract, apply. The Law Society of British Columbia 1 June, 2002

5 The statutory framework governing the employer-employee relationship in Canada is relatively complex. The Constitution Act, 1867 (formerly the British North America Act, 1867) does not give exclusive jurisdiction over employment and labour matters to either the Parliament of Canada or the provincial legislatures and, as a consequence, disputes have arisen as to which level of government has legislative jurisdiction over these matters. The case authorities have conclusively established that neither level of government has exclusive jurisdiction over employment and labour matters and that legislative powers in this area are shared by the Parliament of Canada and the provincial legislatures. Generally, legislative jurisdiction over employment and labour related matters such as trade unions and collective bargaining, wages and other compensation and benefits, workers compensation, hours of work, vacations and statutory holidays, termination of employment, health and safety in the workplace, employment equity, discrimination and human rights issues is allocated to the Parliament of Canada or the provincial legislatures on the basis of whether the industry concerned is subject to federal or provincial regulation. As a result, the employer-employee relationship of a professional employed in a federally regulated industry will be subject to federal employment and labour legislation while a professional employed in a provincially regulated industry will be subject to the employment and labour related legislation of the province in which he or she is employed. An exhaustive review of applicable federal and provincial employment and labour legislation is beyond the scope of this paper. It should, however, be noted that: 1. in most instances, professionals are not members of trade unions and the provisions of the Canada Labour Code, 1 the Labour Relations Code (British Columbia) 2 and similar provincial labour legislation will not apply to the employer-employee relationship; 2. most of the professions are governed by specific provincial legislation; and 3. in some instances, provincial legislation of general application governing employeremployee relationships does not apply to the professions. For example, the Employment Standards Act (British Columbia), the principal statute governing employer-employee relationships in British Columbia, does not apply to most of the professions. 3 As a result, matters such as the wages, hours of work and vacation entitlement of professionals and professionals in training employed in most professions in British Columbia are not subject to any legislated minimums but are governed by the internal rules and policies of the profession s governing body, if any, and the contracts of employment entered into by the professionals and professionals in training and their employers. Professionals and professionals in training seeking employment should carefully review the specific legislation governing their profession together with the rules and policies adopted by the profession s governing body to determine what rules, if any, are applicable to their employment situation. In some instances, rules for the protection of the employee have been adopted. For example, the Professional Conduct Handbook published by the Law Society of British Columbia 4 contains rules which require law firms and employed lawyers to advise clients that they have the right to choose who will continue to represent them when an employed lawyer departs a law firm to practise alone or join another firm and which prohibit lawyers and law firms from requiring, as a condition of employment of an articled student, agreement to a The Law Society of British Columbia 2 June, 2002

6 restrictive covenant limiting the freedom of the articled student to engage in the practice of law upon the termination of such employment. Subject to any minimum standards prescribed by legislation or the rules and policies adopted by a profession s governing body, the legal relationship between an employed professional and his or her employer is governed by the contract of employment and by applicable common law and equitable rules and principles. In some cases, all material terms of the agreement between the employer and employee are set out in a comprehensive formal employment contract. In many cases, however, the principal terms of the employment contract are agreed to orally at the time the employee is hired and not subsequently recorded in writing. More commonly, the principal terms of the employment contract are agreed to orally and then partially recorded in writing in a letter, short form employment contract or any number of other documents. It would be virtually impossible to completely document all aspects of the employer-employee relationship in a written employment contract. Such a comprehensive document would be overwhelming and require constant amendment as circumstances changed. As a result, even where a formal employment contract is entered into, many terms and conditions of the employeremployee relationship remain unwritten and are governed by common law and equitable principles or are implied by custom or usage. In almost all cases it is prudent for the employer and employee to enter into a written employment contract which clearly sets out the principal terms of employment. Written contracts are preferable to oral agreements as disputes about the terms of the employment agreement are greatly reduced. Employer-employee relationships often continue for many years and it may be difficult to establish the terms of an oral agreement as memories fade and people involved in settling the employment contract are no longer available to confirm what was agreed to. Employment contracts commonly include provisions with respect to the following matters: 1. description of the work to be performed by the employee; 2. term of the agreement. Employment contracts can be for fixed or indeterminate terms and may provide for renewal; 3. remuneration payable to the employee, including salary, incentive bonuses, profit sharing provisions and other monetary entitlements. In addition, provisions may be included for periodic salary reviews; 4. benefits to be provided to the employee including car allowances, paid vacation periods, medical, dental plans, life insurance plans and pension plans; 5. place at which the work is to be performed by the employee; 6. restrictive covenants which prohibit the employee from competing with the employer during and after termination of the employment relationship or from soliciting clients or other employees of the employer following termination of the employment relationship; The Law Society of British Columbia 3 June, 2002

7 7. confidentiality; 8. termination provisions including provisions with respect to notice of termination to be given by both the employer and the employee and compensation payable to the employee when terminated without just cause; and 9. arbitration or other dispute resolution provisions. The foregoing list is by no means exhaustive and many other terms and conditions may be included in employment contracts. Legal Considerations on Becoming an Employee As noted above, subject to any minimum standards prescribed by legislation or the rules and policies adopted by a profession s governing body, the legal relationship between an employed professional and his or her employer is governed by the employment contract and applicable common law and equitable rules and principles. While professionals should familiarize themselves with the laws and rules applicable to their particular employment situation, the most important steps that should be taken upon entering into an employment relationship are to ensure that all matters of fundamental importance are considered and addressed in pre-employment negotiations and that the key terms of the employment contract are clearly documented in writing. From the employee s perspective, some matters that should be considered are as follows: 1. a reasonably concise description of the work to be performed should be included in the employment contract. A wide range of services are commonly provided by many professional firms and many professionals elect to specialize within their chosen field. If an employee wishes to restrict the nature of his or her work to a specific practice area, those restrictions should be included in a job description set out in the employment contract. For example, if a chartered accountant wishes to restrict his or her practice to income tax and related matters and is employed to provide those services to clients of an accounting firm, the job description in the employment contract should so state. An attempt by the employer to effect a fundamental change in the nature of the employee s work could, in some circumstances, constitute constructive dismissal entitling the employee to compensation for wrongful termination 5 ; 2. if the professional does not wish to be transferred to another location at which the employer carries on business, the employment contract should specify the location at which the work will be performed. In the absence of such a provision, the employer may have the right to require the employee to relocate. If such a provision is included in the employment contract, an attempt by the employer to force the employee to relocate could constitute constructive dismissal entitling the employee to compensation for wrongful termination 6 ; 3. all arrangements with respect to the remuneration payable to the employee, including salary, incentive bonuses, profit sharing provisions and other monetary entitlements The Law Society of British Columbia 4 June, 2002

8 should be reduced to writing and clearly set out in the employment contract. Vague promises with respect to the payment of performance bonuses are not legally enforceable and often result in bitter disputes in circumstances where the employee strives to attain performance/production goals set by the employer and is not compensated accordingly when those goals are reached. In some cases, performance/production goals are not properly defined so that they can be easily measured on an objective basis where such goals are measured on a subjective basis differences of opinion often arise between employer and employee as to whether they have been attained and the agreed upon bonus is properly payable. In other cases, provisions with respect to the amount of bonus payments and when they are to be paid are vague or uncertain. If performance bonuses are to be paid solely in the discretion of the employer, the employee should clearly understand that he or she will be relying entirely upon the largesse of the employer and will have no legal entitlement to such a bonus no matter what level of performance is attained by them; 4. if the compensation package to be provided by the employer includes benefits such as car allowances, paid vacation periods, medical, dental and life insurance plans or pension plans, the employee should make appropriate enquiries and investigations with respect to the material provisions of those benefits and should ensure that the employment contract provides the employee with a contractual right to receive them. Benefit packages offered to employees by professional firms vary widely. Smaller firms typically offer limited or no benefits while medium sized and larger firms often offer a comprehensive range of benefits. Where limited or no benefits are provided to the employee by the firm, the professional should take that into consideration in negotiating salary and other financial remuneration as he or she will likely have to make alternate arrangements at their own expense; 5. a professional seeking employment should determine whether the employer has an internal policy manual or handbook which deals with such matters as employee benefits, standards of conduct and other matters pertaining to the employment relationship. If so, he or she should obtain a copy of the policy manual or handbook and review the material provisions. From a legal perspective, the issue of whether the provisions of such policy manuals or handbooks form part of the employment contract is a question of fact to be determined in each case. 7 If a policy manual or handbook contains provisions that should properly form part of the employment contract, the professional should insist that the employment contract contain a provision specifically incorporating the policy manual or handbook, or the material portions thereof, as part of the employment contract; 6. if the employer seeks to include in the employment contract covenants restricting the right of the employee to compete with the employer or to solicit clients or other employees of the employer after termination of the employment relationship, the professional should carefully review and consider the terms and conditions of the restrictive covenants sought by the employer to ensure that they are reasonable in the circumstances and consistent with the professional s long and short term goals. In most cases, it is prudent to refuse to agree to such restrictive covenants or to limit their The Law Society of British Columbia 5 June, 2002

9 operation to the extent possible in the circumstances. As such covenants will limit the professional s right to freely practice their profession upon termination of their employment, it may be appropriate to seek legal advice before entering into an employment contract containing any such restrictive covenants; and 7. the provisions of the employment contact relating to the term, renewal and termination of the employment relationship should be carefully reviewed and considered. If the professional contemplates entering into a long term employment relationship, he or she should ensure that the employment contract is not for a fixed term of short duration and that the termination provisions of the employment contract do not allow the employer to terminate their employment by giving a shorter period of notice than that which would be imposed by the common law of wrongful dismissal. Legal Considerations on Ceasing to be an Employee The principal concerns of most employed professionals on leaving their job to commence their own business or join another professional firm will be to ensure that they may practice in the geographical area of their choice and continue to work for clients that they provided professional services to during the course of their employment. Those issues are governed by the provisions of their employment contract, common law and equitable principles and any rules and policies adopted by the profession s governing body. As noted above, in some cases employers require that professional employees covenant not to compete with the employer or to solicit clients or other employees of the employer after termination of the employment relationship. Such covenants often prohibit employees from practising within a defined geographical area for a specified period of time and from soliciting clients of the employer. If the employee has agreed to restrictive covenants of this nature, the express provisions of the covenants will have to be reviewed in detail to determine the applicable restrictions. Professionals that have agreed to such restrictive covenants should be aware that they are not always enforced by the courts. Generally, the courts will decline to enforce such restrictive covenants unless the employer can establish that it has a proprietary interest deserving of protection, that the restrictive covenant is reasonable in terms of duration and geographical location and not otherwise contrary to the public interest. 8 Employed professionals should also note that there are common law and equitable principles which restrict an employee from competing unfairly with the employer following termination of the employment relationship. Although the courts have held that there is no general restriction on ex-employees competing with their former employer and enticing the employer s customers after termination, such conduct must not be unfair. 9 Acts such as the copying of client lists while still employed have been found to breach the general duty of good faith owed by an employee to the employer and to constitute unfair competition. In addition, senior employees that are in a fiduciary relationship with the employer will be subject to stricter duties than regular employees. 10 This area of the law is reasonably complex and employed professionals planning on competing with their employers on termination of the employment relationship may wish to consult a lawyer. It should also be noted that in some circumstances unwarranted interference by The Law Society of British Columbia 6 June, 2002

10 the ex-employee with the contractual relationships between the employer and its clients can constitute tortious conduct actionable in damages. The rules and policies adopted by a profession s governing body should be reviewed to determine if there are any provisions applicable to employed professionals leaving their employment to practice on their own or with another professional firm. For example, the Law Society of British Columbia s Professional Conduct Handbook contains the following provisions: When a lawyer departs from a law firm to practice alone or to join another firm, there is a duty on the departing lawyer and the law firm to inform all clients for whom the departing lawyer is the responsible lawyer in a legal matter of the clients right to choose who will continue to represent them. 11 The right of the client to be informed and to choose his or her solicitor cannot be curtailed by any contractual or other arrangement. 12 With respect to communication other than that required by these Rules, lawyers should be mindful of the common law restrictions upon uses of proprietary information, and interference with contractual and professional relations between the firm and its clients. 13 Employed professionals leaving their jobs should consult with their employers and possibly with the employer s lawyers to ensure that all matters in respect of which professional negligence claims might be made against them are properly reported to the employer s insurer in accordance with the provisions of applicable professional liability insurance policies. If claims are not reported in a timely fashion, insurance coverage may not apply. Business Aspects of the Employer-Employee Relationship Business Considerations on Becoming an Employee There are a number of business matters and issues that should be considered by professionals prior to entering into an employment relationship with another professional or professional firm. These will vary depending upon the personal short and long term goals of the professional and the point in their career at which employment is sought. Matters that ought to be considered include the following: 1. first and foremost, the professional should thoroughly investigate the prospective employer and satisfy themselves as to the integrity and reputation of the employer within the profession and the business community. Although most professionals and professional firms conduct their practices in an ethical manner in full compliance with applicable laws and the rules and policies of the internal body governing their profession, provide professional services competently and meet their financial obligations as they fall due, such is not always the case. An association, even as an employee, with a The Law Society of British Columbia 7 June, 2002

11 professional or firm that does not meet the foregoing standards can be disastrous and have adverse long term implications for a professional s career; 2. if one of the professional s primary goals is to gain expertise and experience in a particular practice area, the professional should confirm that the employer has the expertise in question, present work and good prospects for ongoing work in that area. If possible, the professional should also ascertain that he or she will likely be able to establish satisfactory working relationships with the professionals working in the particular practice area; 3. the professional should determine whether the remuneration package offered by the employer is competitive within the industry given the nature of the employer and its business and the qualifications and experience of the professional. Enquiries of others employed in similar positions and reference to trade journals and professional publications should provide the professional with a reasonable amount of information with respect to financial remuneration and benefits offered within the industry; 4. if the employer is a professional firm and the professional s long term goal is to become a partner of the firm, the professional should ascertain the employer s internal policies governing admission of new partners and should, if possible, obtain some written statement of those policies. It should, however, be noted that most professional firms are generally reluctant to provide junior employees with much more than a general statement of present policy as such policies change over time; and 5. if the employer is a professional firm and the professional s short term goal is to become a partner of the firm, the professional should conduct the same due diligence investigations that would be conducted by a professional considering a partnership offer. In many instances, professional firms hire professionals as employees or independent contractors on a look see basis on the understanding that, provided that both employer and employee are happy with one another after an initial probationary period, the employee will be admitted to the firm as a partner. In those cases, the employee should determine the firm s capital contribution requirements, obtain and review the firm s partnership agreement and financial statements and conduct the other due diligence investigations discussed later in this paper under the section on partnerships. Professionals seeking employment should take into consideration their personal goals and objectives in addition to their professional and financial goals before entering into an employment relationship. Each professional firm has its own culture which is defined, in large part, by the personalities of the professionals working in the firm and the nature of the firm s business. Professionals who do not wish to commit virtually all of their time to their careers should avoid professional firms with extremely high billable hour targets and other time demands. It is also important to find a firm that is compatible with your personality and personal beliefs. The Law Society of British Columbia 8 June, 2002

12 Business Considerations on Ceasing to be an Employee Professionals leaving their employment should ensure that all matters on which they are working are completed or delegated to another professional working for the employer. Failure to do so could result in professional negligence claims against the professional after termination of the employment relationship and, at a minimum, will engender ill will from former colleagues and co-workers. The Professional as a Sole Proprietor General Many professionals engaged in private practice, including most doctors and dentists, operate their businesses as sole proprietors, either as unincorporated businesses or through professional corporations. The true sole proprietorship is owned and operated by an individual although, where permitted by law, many professionals elect to incorporate their practices for a number of business and income tax related reasons. For the purposes of this paper, the term sole proprietor will refer to a single professional operating an incorporated or unincorporated professional practice. Legal Black s Law Dictionary defines the term sole proprietor as follows: A form of business in which one person owns all the assets of the business in contrast to a partnership, trust or corporation. The sole proprietor is solely liable for all the debts of the business. 14 The business and affairs of professionals practising as true sole proprietors are governed by applicable federal and provincial legislation of general application, specific legislation applicable to their profession, rules and policies adopted by any internal body responsible for the governance and administration of the profession and by common law and equitable rules pertaining to individuals and unincorporated businesses. Provincial legislation governing many of the professions permits professional services to be rendered through corporations. For example, the Legal Profession Act (British Columbia) provides that law corporations may carry on the business of providing legal services to the public through one or more persons, each of whom is a member of the Law Society, articled student or otherwise permitted to provide legal services in accordance with the act. 15 In Ontario, the Business Corporations Act (Ontario) permits professional services to be rendered through corporations where the profession is governed by an act which expressly permits corporations to practice the profession. 16 At the present time in Ontario the legislation governing doctors, lawyers, accountants, architects and dentists does not permit the practice of those professions by The Law Society of British Columbia 9 June, 2002

13 corporations although other Ontario professionals, including professional engineers, pharmacists and dental technicians, are permitted to incorporate their practices. 17 For a variety of business and income tax related reasons, many professionals that would otherwise practice as individuals elect to incorporate and conduct their practices through professional corporations. In addition to the legislation and other laws and rules governing the professions generally, professional corporations and their shareholders, directors and officers are subject to: 1. the specific provisions of the statute authorizing the rendering of professional services through the professional corporation together with any rules and policies pertaining to professional corporations that may be adopted by the profession s governing body. For example, in British Columbia law corporations are subject to the provisions of Part 11 of the Legal Profession Act (British Columbia); 2. the provisions of the statute under which the professional corporation is incorporated. While, in most instances, specific legislation governing the professions authorizes the rendering of professional services through corporations, most professional corporations are incorporated under provincial corporate legislation of general application. For example, in British Columbia and Alberta most professional corporations are required to be incorporated under the Company Act (British Columbia) 18 and the Business Corporations Act (Alberta), 19 respectively. Save and except as specifically excluded by the specific legislation governing the profession, the provisions of the corporate legislation under which a professional corporation is incorporated apply to the professional corporation and its shareholders, directors and officers; 3. the memorandum and articles, articles of incorporation, bylaws or other constating documents of the professional corporation; 4. common law and equitable rules pertaining to corporations; and 5. where a professional corporation has more than one shareholder, any shareholder agreement or other contractual arrangement entered into between the shareholders. Many sole proprietors practising as individuals or through professional corporations elect to carry on their practices in conjunction with others in cost sharing groups or associations. Black s Law Dictionary defines the term association as follows: The act of a number of persons in uniting together for some special purpose or business. It is a term of vague meaning used to indicate a collection or organization of persons who have joined together for a certain or common object. 20 The foregoing definition accurately reflects the nature of professional cost sharing groups and associations in the common law provinces. There is a broad range of such groups and associations having wide ranging objectives and which take a variety of forms. At one end of the spectrum is a bare cost sharing arrangement where professionals conduct their practices in common premises for the sole purpose of sharing resources and minimizing costs. At the other The Law Society of British Columbia 10 June, 2002

14 end of the spectrum is an association of professionals who, in addition to sharing expenses, practice under a common letterhead, work together on client matters and implement a common system of client referrals. Cost sharing arrangements have been prevalent in the medical and dental professions for years and are now becoming increasingly common in the legal and accounting professions. In all cases, each individual or professional corporation participating in such a cost sharing group or association is conducting a separate business for legal and tax purposes and, to avoid adverse income tax and liability consequences, care must be taken to ensure that the group or association is not structured or operated so as to constitute a general partnership. Legal Considerations on Becoming a Sole Proprietor Where provincial legislation permits professional services to be rendered through a corporation, one of the most significant decisions faced by a professional electing to commence practice as a sole proprietor is whether or not to incorporate. Although incorporation results in some additional startup costs and practising through a professional corporation adds an additional level of complexity to the professional s life as financial statements and income tax returns must be prepared for the professional corporation, incorporation does offer some significant advantages including the following: 1. professionals, particularly those with families, can take advantage of tax planning opportunities not available to individuals; 2. operating a professional practice through a corporation permits the professional to conveniently separate personal and business affairs; and 3. incorporation may permit the professional to enjoy the benefits of limited liability in some instances. As noted above, professionals practising as unincorporated sole proprietors are personally liable for all of the debts, liabilities and obligations incurred in connection with their practice, including, without limitation, loans, lease obligations, amounts owed to trade creditors and any claims that may be made against them for professional negligence, breach of contract or other matters. In addition, if the professional employs other professionals in their practice, in most instances they will be vicariously liable for the professional negligence of those employees. As a result, all of the personal assets of the professional are exposed to the financial and business risks associated with the professional practice. Incorporation of a professional practice offers some, but not all, of the benefits of limited liability normally available to the principals of other incorporated businesses. As noted above, in most instances the specific legislation governing the professions requires that professional corporations be incorporated under provincial corporate legislation of general application which provides shareholders with limited liability in most instances. For example, the Company Act (British Columbia) provides that...no member of a company is personally liable for the debts, obligations or acts of the company. 21 Similar provisions are contained in the corporate legislation of the other common law provinces. 22 The Law Society of British Columbia 11 June, 2002

15 Professionals should, however, note that: 1. in general, professionals are personally liable for their own negligence and cannot avoid that liability by incorporating their practice. The decision of the Supreme Court of Canada in London Drugs Ltd. v. Kuehne & Nagel International Ltd. 23 clearly established that employees of a corporation who perform services in carrying out their employer s contractual obligations to a third party may owe a duty of care to the third party and may be personally liable if those services are negligently performed. The question of whether a duty of care arises will depend on the circumstances of each particular case and in some instances the courts have held that employed professionals do not owe a duty of care to their employer s client notwithstanding that the employer itself has been found liable to the client for negligence or breach of contract. 24 Negligence actions involving employed professionals are normally brought against both the professional and the professional corporation which, in most instances, is vicariously liable for the negligence of its employees; 2. legislation governing some of the professions specifically deals with the personal liability of professionals practising as employees of corporations and such legislation should be carefully reviewed to determine what restrictions, if any, have been imposed which restrict the usual rules governing the limited liability of the principals of incorporated businesses. Professionals electing to incorporate their practices should not assume that incorporation will provide blanket protection for their personal assets from debts, liabilities and obligations incurred in connection with their practice. For example, the Legal Profession Act (British Columbia) provides as follows: The liability for professional negligence of any member carrying on the practice of law is not affected by the fact that the member is carrying on that practice as an employee and on behalf of a law corporation. 25 Similar provisions are set out in the legislation governing other professions in British Columbia. 26 These statutory provisions have not yet been considered by a British Columbia court and the extent to which incorporation of a professional practice will permit British Columbia professionals to limit their personal liability has yet to be determined. 27 Other provincial legislation is more restrictive than that of British Columbia and strictly limits the ability of professionals to limit their personal liability by incorporating their practices. For example, the Certified Management Accountants Act (Alberta) provides as follows: Notwithstanding anything to the contrary in the Companies Act or the Business Corporations Act, every person who is a shareholder of a corporation (a) (b) during the time that is the holder of a permit, or during the time that it practises in contravention of this Act or a predecessor of this Act, The Law Society of British Columbia 12 June, 2002

16 is liable to the same extent and in the same manner as if the shareholders of the corporation were, during that time, carrying on the business of the corporation as a partnership or, when there is only 1 shareholder, as an individual practising as a certified management accountant. The liability of a person carrying on the practice of a certified management accountant is not affected by the fact that the practice of a certified management accountant is carried on by the person as an employee and on behalf of a professional corporation. 28 Similar provisions are set out in the legislation governing other professions in Alberta. 29 Although judicial consideration of these statutory provisions has not been extensive, in two instances Alberta courts have construed these provisions strictly in finding professionals personally liable for debts and obligations directly related to their professional practices. In Corkery v. Foster Wedekind, 30 the court found a lawyer who was the sole shareholder of his professional corporation to be personally liable for unpaid employee benefits owing by the corporation to an employed lawyer. The court held that wages and benefits owing to the employed lawyer were costs directly related to the law practice and were obligations for which the sole shareholder of the professional corporation remained personally liable. Similarly, in Edmonton Telephone Corp. v. Monette 31 the court found a certified management accountant, being the sole shareholder and director of a professional corporation, to be personally liable under a lease of telephone equipment used in the corporation s accounting business. However, in Bancorp Financial Limited v. Thomas N. Mather Professional Corporation et al 32 the court held that a dentist who was the sole shareholder and director of a professional corporation was not personally liable under a mortgage granted by the corporation with respect to real property that was not purchased for purposes directly or indirectly related to, or any way connected with, the dental practice carried on by the corporation. As the foregoing decisions were based, almost entirely, on the judicial interpretation of the statutory provisions in question, their application in provinces other than Alberta is uncertain; 3. In some instances, the internal governing body of a profession will require, as a condition of consenting to a professional incorporating his or her practice, that the professional agree to be personally responsible for some or all of the debts and obligations of the corporation. For example, the College of Dental Surgeons of British Columbia requires principals of dental professional corporations to waive the limitations on liability provided by subsections 55(1) and 55(3) of the Company Act (British Columbia) insofar as the activities of the corporation relate to liabilities to patients and to agree to be jointly and severally liable for the debts, obligations, acts and omissions, whether arising through gross negligence or otherwise, of the corporation to patients arising out of the provision of dental services by the corporation 33 ; 4. statutory rules of general application confer personal liability on the directors and officers of corporations in some instances. As, in most cases, the directors and officers of professional corporations are the professionals that own and operate the professional corporation, incorporation offers limited protection for those individuals. For example, The Law Society of British Columbia 13 June, 2002

17 the Income Tax Act (Canada) provides that the directors of a corporation are jointly and severally liable, together with the corporation, to pay certain amounts, and any interest and penalties relating thereto, which the corporation has failed to pay. 34 Those amounts include statutory deductions required to be made by the corporation and remitted to Revenue Canada with respect to salary and wages paid by the corporation to its employees, amounts to be deducted and withheld by the corporation from non-resident taxpayers and taxes payable by the corporation under Part VII or Part VIII of the Income Tax Act (Canada). Similarly, in certain circumstances the Employment Standards Act (British Columbia) imposes liability on the directors and officers of corporations for wages and salaries owing by the corporation to its employees 35 ; 5. professionals should also be aware that the rules and policies adopted by the internal body governing their profession may impose duties on them to meet financial obligations. For example, the Law Society of British Columbia s Professional Conduct Handbook provides as follows: The lawyer has a professional duty, quite apart from any legal liability, to meet professional financial obligations incurred or assumed in the course of practice, such as agency accounts, obligations to members of the profession, fees or charges of witnesses, sheriffs, special examiners, registrars, reporters and public officials when called upon to do so. 36 Failure to meet such obligations, even though they may not be legally binding on the professional, could result in disciplinary proceedings or other sanctions; and 6. professionals conducting their practices through professional corporations should ensure that they adhere to all requirements imposed by applicable corporate legislation to ensure that they do not lose their limited liability status. For example, the Company Act (British Columbia) requires that every company shall display its name in legible characters at every office or place at which it carries on business, in a conspicuous position, in all notices and other official publications, and on all of the company s contracts, business letters, orders for goods, invoices, statements of account, letters of credit, bills of exchange, promissory notes, endorsements, cheques and orders for money. 37 Directors, officers, employees and agents of a company who knowingly fail to comply with the foregoing requirements may incur personal liability to creditors and other parties that suffer loss or damage as a result of being misled by such failure. Legal Considerations on Joining a Cost Sharing Group or Association As noted above, there is a broad range of professional cost sharing groups and associations which take a variety of forms. While the structure and business arrangements of each such cost sharing group or association should be analyzed on an individual basis, the following matters should be considered by professionals considering entering into such an arrangement: 1. the legal essence of a cost sharing group or association is that each of the members of the group or association is a sole proprietor carrying on a separate business. In some cases, The Law Society of British Columbia 14 June, 2002

18 cost sharing groups or associations are structured so that shared business premises, furniture, equipment and staff are owned and employed by a separate legal entity such as a management corporation or limited partnership which then provides space and services to the members of the group or association. In such cases, the management entity is generally owned by the sole proprietor members of the cost sharing group or association or members of their immediate families; 2. it is absolutely mandatory that the cost sharing group or association be structured in such a manner, both in form and substance, that it cannot be successfully argued that its members are carrying on business in partnership. If the group or association is legally characterized as a partnership, its members may be treated as a single entity for tax purposes and forfeit many of the tax advantages available to sole proprietors. In addition, members of the group or association may find that they are jointly and severally liable for debts, liabilities and obligations incurred by the other members; 3. great care must be taken to ensure that all parties dealing with members of the group or association are aware that each of the members is a sole proprietor and not a member of a partnership. The use of common signage, letterhead, invoices and similar documents would lead third parties to conclude that members of the group or association are carrying on business in partnership. Signage and business documents must clearly disclose that each member of the group or association is carrying on business separately; 4. the rules and policies of the internal body governing a profession may impose obligations on professionals practising in associations or apparent partnerships. For example, the Law Society of British Columbia s Professional Conduct Handbook provides as follows: Any lawyer held out as practising in partnership or association with one or more lawyers shall be deemed to have the same professional responsibilities to the general public, other lawyers and to the Law Society, for the actions or any lawyer or lawyers with whom he or she is practising in an apparent partnership or association, as the lawyer would have if carrying on practice with such lawyer or lawyers in a partnership even if a cost sharing group or association is properly structured and does not legally comprise a partnership, in some instances each of its members may be characterized as the agent of the other members and be able to bind them. Cost sharing and association agreements should deal with this issue and clearly set out the terms of any agency relationship, including any applicable restrictions, between the members of the group or association. If it is not intended that any of the members of the group be authorized to act as the agent of the other members, such agreements should clearly set that out; and 6. where an association agreement provides for client referrals or the sharing of revenues between members of the association in any fashion, applicable rules and policies of the profession s internal governing body with respect to referral fees and fee splitting should be considered and adhered to. For example, the Law Society of British Columbia s Professional Conduct Handbook contains a number of provisions with respect to referral The Law Society of British Columbia 15 June, 2002

19 Business fees and fee splitting which should be considered by lawyers entering into an association. 39 Business Considerations on Becoming a Sole Proprietor Sole proprietors, particularly those practising as individuals, should ensure that they obtain adequate professional liability and other liability insurance. While minimum insurance requirements are often prescribed by a profession s governing body, policy limits may not be adequate and excess liability insurance should be considered. Sole proprietors should also consider obtaining disability insurance to ensure that health problems or injuries do not result in serious financial problems. While sole proprietors practising as individuals will be personally liable for the debts, liabilities and obligations of the professional practice, sole proprietors practising through professional corporations should avoid, to the extent possible, signing personal guarantees and indemnities that make them personally liable for the debts, liabilities and obligations of the professional corporation. Financial institutions rarely loan funds to professional corporations without demanding personal guarantees from the principals of the corporation. In some instances, however, landlords and equipment vendors do not require personal guarantees for leases of office premises and office furniture and equipment. In most cases trade creditors do not require personal guarantees. Where personal guarantees are given, they should be limited in amount if possible. For example, if a line of credit of $50,000 is arranged with a chartered bank, any personal guarantees given should be limited to $50,000 together with interest. In some instances, financial institutions require that loans to a sole proprietor be secured by a mortgage on the professional s personal residence. Where the residence is held in joint tenancy or tenancy in common by the professional and his or her spouse or owned outright by the spouse, the spouse is often required to guarantee the loan and execute the mortgage as collateral security for the loan. In some cases, lenders are prepared to agree that the loan will be non-recourse insofar as the spouse is concerned and that if collection proceedings are taken only the interest of the spouse in the residence, and not the separate assets of the spouse, will be available to repay the loan. Business Considerations on Joining a Cost Sharing Group or Association Business matters that should be considered by professionals entering into cost sharing groups or associations will depend, in large part, on the structure of the group or association and the specific terms and conditions of the cost sharing or association agreement to be entered into. Generally, however, matters that ought to be considered are as follows: 1. the professional should thoroughly investigate the other members of the group or association and satisfy themselves as to their integrity and reputation within the profession and the business community. The professional should also satisfy themselves The Law Society of British Columbia 16 June, 2002

20 that their practice, clientele, personality and personal beliefs will be compatible with those of the other members of the group or association; 2. the professional should ensure that the portion of the business premises allocated exclusively for his or her use and the areas to be used in common by all members of the group or association are appropriate given their practice, clientele and staffing requirements and that all required specialized equipment and materials, including reference works, are available or may be accommodated; 3. the professional should obtain and thoroughly review any cost sharing or association agreement to determine the rights and obligations of members of the group or association. Depending upon the structure of the group or association, such agreements may include provisions with respect to: the resolution of disputes between members of the group or association; ownership of records and files; confirmation of the independence of the members; the ownership of capital assets; liabilities of the members under long term contracts and leases; banking arrangements; the allocation of costs and expenses among the members of the group or association; business and liability insurance; admission and withdrawal of members; term of commitment; and administrative responsibilities of the members; 4. the professional should thoroughly analyze the financial aspects of conducting his or her practice as a member of the group or association. The provisions of any cost sharing or association agreement should be reviewed in detail to determine how costs and expenses are allocated among members. To the extent possible, historical financial information should be reviewed for the purposes of analyzing costs. If possible, at least three years of such financial information should be obtained and reviewed. If no historical financial information is available, financial projections should be obtained or prepared. Key financial documents such as leases or mortgages of business premises, equipment leases and other documents evidencing long term or substantial commitments should be obtained and reviewed. If business premises are leased and the lease is about to expire, the terms of any renewal option should be ascertained or, if there is no renewal option, enquiries should be made as to what steps are proposed to be taken upon expiration of the lease. Enquiries should be made to determine whether any substantial expenditures are contemplated in the near future that are to be borne by members of the group or association; 5. if a capital contribution is required as a condition of entering into the group or association, the professional should determine exactly what property or interest is being acquired for the capital contributed, how long the capital will be invested, whether interest or other income will be earned on the capital invested and what procedures are to be taken to recover the capital when the professional ceases to be a member of the group or association. If the capital contribution is to take the form of shares in a management corporation, the constating documents of the corporation and any shareholder or other agreement governing the rights and obligations of the shareholders should be obtained and reviewed. If the capital contribution is to take the form of an interest in a management limited partnership, the agreement of limited partnership and any other The Law Society of British Columbia 17 June, 2002