If you are a small business owner or thinking of becoming one, you may have questions about how to structure your business.
As a small business owner, you can structure your business as a sole proprietorship, a partnership, or a corporation. Each structure type has its benefits and drawbacks, with incorporation having the greatest benefit to many small businesses.
When is the right time to incorporate your small business?
There is no one answer to this question, despite what you have heard about revenue and profit guidelines. The best way to determine if it is time to incorporate is to talk to a professional accountant who can properly evaluate your business and determine if incorporation is right for you.
Reasons that you should incorporate:
You are concerned about liability.
Liability is one of the most common reasons that businesses incorporate in Canada. If a creditor were to come after your small business, you would not be held personally responsible. The only assets in danger are those held within your corporation. For this reason, a corporation shields you from personal liability in most situations.
You are building your business to sell.
If you are starting your business to sell it someday, incorporation can save you from a significant tax bill. Operating your business through a Canadian Controlled Private Corporation can allow you to sell your shares at a gain of $900k without paying any tax. This is accomplished via the lifetime capital gains exemption.
Your business earns more cash than you need.
If your business is earning more than you need for living expenses, you can leave the extra profit in the company. This will leave you with a lower personal income tax bill. Additionally, you can defer the tax until a later year when your personal income tax burden is lower.
Advantages of incorporating your small business:
Tax Benefits
Incorporated businesses can take advantage of tax benefits not available to sole proprietors. In general, corporate tax rates are lower than personal income tax rates. A person making just over $100,000 per year can be taxed at an average rate of 30% as a sole proprietor, but as a corporation that income will be taxed at a much lower federal rate of 9% (provincial taxes would also apply).
Limited Liability
Corporations are separate entities from their shareholders. This means that creditors who wish to take legal action against the business would have to do so against the corporation’s assets, and not the personal assets of the shareholders. Protecting personal assets such as your home and personal bank account can also safeguard your family’s livelihood.
Income Tax Deferral
Operating your business through a corporation can allow you to control the amount you pay yourself each year. This can keep your personal income taxes at a lower rate. You can also choose how you would like to pay yourself. Many business owners choose to pay themselves through dividends, which can be taxed at a lower rate than paying yourself a salary. Speaking with an accountant can help you decide the best way to pay yourself each year.
Estate Planning
A corporation will continue to exist after its owner has passed away. In that case, ownership of the shares would be passed on to the business owner’s heirs. This stability allows for small business owners to make long-term plans and provides more flexibility when transferring assets to others.
Incorporation Looks Good on Paper
Incorporation can give a business a certain amount of credibility. Brand development can make it easier to make your company known and can grow your business faster than it could as a sole proprietorship. Additionally, being incorporated can make grants and loans more accessible.
Disadvantages of incorporating your small business:
Cost
Incorporation has an initial set-up cost, as well as ongoing costs to maintain good standing with government authorities.
Losses Remain with the Business
If the business loses money, the loss stays within the corporation. You cannot write off the loss against your income as you would be able to do as a sole proprietor. Nevertheless, you can still carry those losses forward to deduct against future profits.
Paperwork and Administrative Burden
Corporations need to file T2 Corporate Income Tax Returns, Annual Returns, GST/HST (if applicable), and Payroll (if applicable). To minimize issues with these filings, it is best to use the services of an accountant to ensure that the filings are accurate and submitted on time.
Can Elite Accounting help me incorporate?
We offer incorporation services and ongoing support for your small business. Contact us to get started on your incorporation journey.
Published by Elite Accounting Inc.
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