The Hidden Risks of Fixed-Term Contracts of Employment

By Stuart Rudner

In one of my blog post for First Reference Talks, I discussed the often misguided usage of fixed-term contracts and unintended consequences that can result.

It seems as though many employers have decided to use fixed term contracts in a potentially misguided effort to reduce their labour costs and limit their severance obligations. Unfortunately, this decision seems to be based upon a misunderstanding of the law, and can result in unexpected liability and costs. Furthermore, it does not always result in the cost savings that the employer anticipated, and in any event, there are often better ways to achieve those savings.

Your Don’t have to Provide Benefits to Anyone

To begin with, there is a common misconception that “contract employees” are not entitled to benefits. The reality is that every employment contract (written or verbal) is open to negotiation. Whether an employee is hired indefinitely or for a fixed term is irrelevant; an employer could, if they choose, negotiate to offer some benefits to some employees and not to others. Of course, that may not be good HR practice, and is obviously not possible in a unionized environment. However, there is no automatic rule that “permanent” employees are entitled to benefits and fixed-term employees are not.

Your Severance Obligations May Increase

The vast majority of employment contracts in Canada are of indefinite duration, with no fixed end date. Such contracts can be terminated by the employer upon the provision of notice of termination, or pay in lieu thereof. The amount of notice, or pay in lieu, that must be provided is to be determined based upon contract (if an enforceable termination clause exists), or a combination of statute and common law.

Many employers decide that they want to avoid the obligation to provide notice or termination pay by simply offering an employee work for a fixed period of time. The theory is that when the contract ends, they will have no further obligation to the individual, unless they choose to renew the contract. While that is true, the use of a fixed-term contract can create some surprising obligations.

If there is no termination clause in the contract, then the employer has no right to terminate the contract early. If it purports to do so, then it must pay the employee for the balance of the contract. In some cases, this can result in far more pay in lieu of notice than the individual would have been entitled to at common law. This comes as a shock to many employers, who let someone go with minimal notice, not realizing that they are “on the hook” for the balance of the contract.

Sometimes, a confusing situation will arise where the amount of notice of termination required by the termination clause is more than the amount of time remaining on the contract. In that case, the question arises as to whether the employer must provide termination pay in accordance with the termination clause, or simply pay the employee for the remainder of the contract. This was an issue in the recent decision of the Alberta Court of Appeal in Thompson v. Cardel Homes Limited Partnership.

The plaintiff was a senior executive hired pursuant to a two-year contract that was subsequently renewed for one more year. There were detailed termination clauses in the contract, including one that provided for a twelve month severance payment in the event of the early termination of the relationship by the employer. One month before the contract would have ended, the employee was advised that it would not be renewed; he was then told not to bother coming back to work for the remaining month and to pick up his personal belongings.

The first issue before the court was whether the plaintiff was terminated before the end of his contract or simply given notice it would not be renewed. The court relied upon the fact that the plaintiff was told not to work after receiving notice. This was deemed to be a constructive dismissal and, by law, a termination of the contract. As a result, the court found that the termination clause, requiring a severance payment equivalent to 12 months of compensation, had been triggered.

Needless to say, it would have been far less expensive for the company in that case to simply advise the employee the contract was not going to be renewed, but allow him to work through the balance of the current contract. By proceeding as it did, it inadvertently triggered the termination clause, which required twelve months of severance when only one month remained on the contractual term.

With respect to reducing severance costs, it is often more beneficial to hire someone indefinitely but have a clear termination clause.

You May Inadvertently End up with an Indefinite Contract of Employment

Another common risk is that employers often forget that an employee was hired pursuant to a fixed-term contract, and the parties simply continue on beyond the end date. At that point, the contract becomes one of indefinite duration.

The other common risk is that courts will find that successive fixed-term contracts are really a sham, and find that it was truly a relationship of indefinite duration. This issue was recently addressed by the Ontario Superior Court of Justice considered in Michela v. St. Thomas of Villanova Catholic School. In that case, three teachers took the position that despite successive one-year contracts, they were truly working pursuant to contracts of indefinite duration. The court considered the following facts:

• the contracts contained both renewal and early termination clauses;
• the school indicated that they were subject to review on an annual basis;
• the school had represented to the teachers that their contracts would be renewed annually;
• the staff handbook clearly contemplated long-term employment relationships; and
• there was an expectation of renewal.

The court found in favour of the teachers, following the Ontario Court of Appeal decision in Ceccol v. Ontario Gymnastic Federation, which held that when the underlying reality of an employment relationship suggests one of indefinite duration, then successive fixed-term contracts can be deemed to be a contract of indefinite employment.

Contrary to popular belief, there is no “magic number”; the courts will not automatically deem a contract to be one of indefinite duration after a certain number of years. However, they will assess the specific facts of each case in order to assess the reality and determine whether the contract was really one of fixed duration and renewed pursuant to consideration and discussion, or was assumed to be for the long-term.

Using Fixed Term Contracts Wisely

There are situations where fixed-term contracts of employment are perfectly appropriate. This would include situations where a replacement is required for an employee on leave, where the employee is hired for a specific project, or where employment is subject to unpredictable funding. For example, I work with many not-for-profit organizations that are largely dependent upon government or third-party funding. They genuinely do not know whether they will be in a position to continue employing someone in the future, as the funding is typically renewed on an annual basis. As such, it is prudent to put a fixed-term contract of employment in place.

Where fixed-term contracts are used, employers should

• document the reasons for the fixed-term contract
• clearly state that it will not automatically be renewed
• not allow the employee to continue working beyond the term unless they
• actively negotiate a renewal or extension
• be mindful of changing circumstances, and
• if the underlying reason for the fixed-term nature of the contract, such as unpredictable funding, should change, consider changing the contractual relationship as well.

Ultimately, the employer should have documentation to satisfy a court that the contract was not simply an attempt to avoid legal obligations that would arise if the contract was of indefinite duration.

Stuart Rudner is a leading HR Lawyer and a founding partner of Rudner Law, a firm specializing in Canadian Employment Law. He provides clients with strategic advice regarding all aspects of the employment relationship, and represents them before courts, mediators and tribunals. In 2008, he appeared at the Supreme Court of Canada on behalf of the Human Resources Professionals Association (HRPA) of Ontario in Honda v. Keays, one of the most important employment law cases of the last decade. He speaks and writes frequently on HR Law issues, and provides updates on Twitter @CanadianHRLaw. He is the author of You’re Fired! Just Cause for Dismissal in Canada, a textbook and database of summary dismissal cases published by Carswell. Stuart also founded and moderates the Canadian HR Law Group on LinkedIn, where you can discuss issues with colleagues and experts. He contributes regularly to First Reference Talks. He can be reached