Considerations for incorporating a small business – 2019

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January 5, 2019

Establishing a corporation

One of the first steps of incorporating is to determine the name of your corporation (unless you are using a plain numbered company).  This involves performing a NUANs search, to ensure the name you have chosen, isn’t already in use.  This search is submitted as part of your corporation’s registration.

A second consideration is to determine what type of corporation you need to establish.  Medical professionals, Legal Practitioners, Veterinarians and Accountants are all examples of professions that may incorporate Professional Corporations.

These are special corporations that have specific rules mandated by the applicable governing body.  The rules can restrict the ability of who may hold shares in your corporation, or the type of activities your corporation can carry out.  For example you may not be able to add your spouse as a shareholder if they are not a member of your professional body.  

Also, you may be restricted in what your corporation can invest in. For example, a professional corporation may be restricted in purchasing investments such as real property unless it pertains to the provision of the professional services offered by the corporation.

It is strongly advisable to have a lawyer assist with incorporating a company and to provide ongoing legal requirements.  A corporate lawyer will help you determine the type of incorporation you need, ie: Federal or Provincial Incorporation and ensure your articles of incorporation are appropriate for your business. 

Once a company is incorporated, there are various filing requirements and on-going resolutions required.

In Ontario, The Ontario Business Corporations Act outlines these obligations. Transfer of shares, payments of dividends, or changing the number of directors are all examples of corporate events that would require a resolution by the board of directors. 

This additional paperwork & compliance cost should be taken into account when determining whether it is viable to incorporate.

Service Ontario also outlines the steps of incorporation on their website.

Limited Liability

In general, the shareholder/members of the corporation are not personally liable for actions which the company undertakes. This protection may be desirable for shareholders wanting to limiting their exposure to an investment in a corporation to only the capital contributed.  However, there are exceptions such as in the case of a professional corporations where limited liability may not be offered to the shareholders.  A lawyer specializing in corporate law can help determine the level of liability to the shareholders.

Separate legal entity

A corporation is a separate legal entity and considered a person under tax law.  This allows the corporation to enter into contracts under its own name and allows for continued existence.  The corporation is governed by a board of directors and will continue its existence despite the death of one or more of the shareholders.   Transferring the ownership of ownership in a corporation can be done by simply selling the shares of the company.   In the case of a sole proprietorship the death of the owner will result in the assets of the business being held by the person’s estate and their estate trustee will have to determine how the assets are to be divided up.

Income splitting

One advantage of a corporation is that several different classes of shares can be issued.  This makes it possible to pay dividends in varying amounts to different shareholders. For example, in the case of a small business, Shareholder A may be contributing only 25 hours of work to the business a week, whereas Shareholder B is working 60 hours a week.  The Shareholders may also be taking an equal salary from the business so to equalize their compensation, Shareholder B could receive a dividend from the company to the exclusion of Shareholder A if they hold separate classes of shares. The owners will of course have to take into account the new Tax on Split Income rules to ensure the dividends are not taxed at the high rate.

Estate freeze

With the use of different classes of shares, it is possible to freeze the value of a company in preferred shares.  This technique may be useful for business owners wanting to transfer the increase in value of the company to future generations.  By attaching different voting rights to various classes of shares, owners can determine how much control they would like over the business while having the future value of the business accrue to a different shareholder.

Business Losses

Losses generated in a corporation cannot be distributed out to a shareholder and for this reason businesses that generate losses may be more suitably set up in a structure such as a partnership or sole proprietorship. In this type of structure the losses will flow directly to the owner(s) and can be used to offset any other income earned.   These structures may be preferred by owners of rental properties that are not always profitable, the losses could be used to offset other income the owner may have.

Enhanced capital gains exemption

A lifetime capital gain exemption of $866,912 (2019) is available to owners of shares of a qualified small business corporation (QSBC). For owners looking to sell their business, this exemption could result in a significant amount of tax savings and could easily justify the costs of incorporation. There are several requirements in order to gain access to this exemption.  If you need assistance in helping plan for the sale of your business we can assist you in developing the optimal structure to minimize taxes on the sale of your business.

Tax deferral

Active business income earned within a Canadian Controlled Private Corporation (CCPC), at the time of writing this article, is taxed at a combined federal and provincial rate of 15% for the first $500,000. The top marginal rate in Ontario on regular and interest income is 53.53%.  Active business income earned by a CCPC and re-invested in the corporation will result in significant tax deferral that is not otherwise available to a sole proprietor or partnership.

The are also other reasons why you want to incorporate, the article “Should you incorporate your business”, by Chris Atchison of the Globe and Mail offers additional aspects to consider.

On-going compliance checklist

These are some of the basic compliance items private company owners need to consider filing:

  • Corporate T2 return
  • T4 slips & information return for salary and wages paid by the corporation
  • T5 slips & information return for dividends and interest paid by the corporation
  • GST/HST returns for registered corporations (see CRA article When to register for and start charging the GST/HST)
  • Corporate Minute Book resolutions [as advised by a corporate lawyer]
  • Instalment corporate tax payments

If you would like to know more about the potential tax benefits of incorporating a business and whether it is right for you, or help with your tax filings, contact us today.

Robert Ng, CPA Professional Corporation is an independent tax accountant operating in London, Ontario. 

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