Incorporating is a major business decision. With pricey setup fees, paperwork, and regular reporting, it isn’t a straightforward choice to make. Yet some businesses feel the legal and tax advantages, along with other pros, outweigh the cons. Other business owners may not find it beneficial, especially with the work required to remain legal. However, if you would like to know if you should incorporate your business, we will walk you through it.
When forming a business, the government of Canada requires you to pick your legal structure: sole proprietorship, partnership, or corporation. Each structure dictates how your business runs, tax, finance, and your legal liability. Although many small businesses in Canada are Sole Proprietorships or Partnerships, the move towards incorporation is more common as a way to protect yourself and your business.
What is a Corporation?
A corporation is a company authorized to act as a separate legal entity by the federal or provincial government. By “separate entity”, it means the company has its own rights and obligations separate from the owner(s). Although corporations are traditionally viewed as a group of people, a corporation can be comprised of just you—you are then considered the sole shareholder of the corporation.
There are five types of corporations in Canada (each with its own effect on your taxes), however, becoming a corporation is more than adding a suffix to your business name or number, it has legal implications.
Benefits of Incorporating Your Business
- Limited liability: In a sole proprietorship, the owner’s personal assets are at risk. In a corporation, the shareholders are only liable for the amount they invest, through shares, in the corporation. This means if someone decides to sue your business or the company falls into debt, your personal income and assets are left untouched
- Save on taxes: Perhaps one of the most loved benefits is the lower taxes for small businesses thanks to a small business deduction. The company income does not include rental or investment income, and taxes are deferred until shareholders are paid. With each shareholder earning a separate amount, the income is taxed at the personal level. Check with a tax accountant to see if your business can save.
- Transferable ownership: A sole proprietorship is owned by you, and it takes lots of paperwork to transfer to someone else (you need to close your CRA account and cancel sole proprietorship, write up a sales contract, and hand over titles and deeds). Corporations can easily transfer ownership with less paperwork and hassle.
- Easier to raise capital and more credible: Lenders are more willing to provide loans or receive shares from a company if it’s a corporation. Sole proprietorships are seen as riskier because they are not separate from the owner.
- Tax-free Benefits: If you have employees, you can provide deductions for private health service plans meaning better benefits with fewer costs to you.
Drawbacks of Incorporating Your Business
- More expensive: While sole proprietorships only require a small Master Business License fee, registering as a corporation requires more setup and administrative costs.
- More paperwork: Incorporation is a long process that involves bookkeeping, annual reports, corporate tax returns, and expenses. These companies must strictly follow rules and keep detailed records to continue running.
- Double taxation: You might be taxed double for profits (once as a company, and another time for the income you pay yourself as an “employee”—personal and corporate income).
- Sophisticated Structure: Corporations require structure and levels of leadership. Deciding who owns a share, how much control they have in the company, and other factors are important to set straight from the beginning to prevent any issues.
- Dealing with loss: Since your business is a separate legal entity, you cannot write off your business losses with shareholders’ income.
You may also want to consider personal service corporation as an option for declaration, if your business is operating with freelancers, independent contractors, or another similar business structures.
How do you know if you should incorporate?
Before incorporating, we suggest speaking to a professional to help you decide on the best route to take. Depending on your financial situation, business profits/loss, and future goals, incorporating immediately may not be the wisest decision for you or your business.
Here are three main factors to consider when making the decision to incorporate or not:
- What’s your business’ net income? The more money you make, the more beneficial it is, and the more you can write off. Even if you employ family members, you can split the income and lower your household tax rate.
- Do you expect to hire employees? Incorporating before hiring ensures their contracts will not be able to touch your personal assets.
- Do you want to protect your personal assets? The separation of “you” and “your business” helps mitigate debt or damages.
Incorporating benefits your finances, but it also protects your personal finances.
How to Incorporate in Canada
If you are doing business in only one province, you need to register with the provincial government. If you are doing business in multiple, then you need to register with the federal government. As you may expect, working in multiple provinces means you will need to file additional paperwork. You cannot conduct any business as a corporation in another province before registering.
Need help with taxes?
If you choose to incorporate, it is important that you use a professional tax accountant to help manage your finances. Regularly keeping up with your income, expenses, and other financial needs is important to ensure your incorporation runs legally.
At Soleimani Accounting, we specialize in providing professional accounting services for small businesses and corporations. From bookkeeping and accounting to tax and financial planning, we are here to help your business thrive through sound financial advice and assistance. Get in touch to book a free 30-minute consultation.