Deciding between incorporation or a sole proprietorship is one of the most important decisions that any business in Canada will face. There are a number of relevant factors that will have a major impact on how your business runs.
While the full pros and cons of incorporating vs a sole proprietorship may be long and complex, there are a small number of key factors that will quickly decide the issue for a number of Canadian businesses faced with this decision.
Here are the key issues involved when comparing corporations and sole proprietorships. This list will help you to decide the right direction for your Canadian business, or set you on the path to finding the further information that you need. Here at HR Accounting we want all our clients to have the confidence and peace of mind that comes with choosing the right structure for their company.
Likely the most important concern for Canadian business owners is liability. Corporations offer a form of limited liability, where the corporation, as a distinct and separate entity from the owner, is only legally liable up to the limit of its own capital and not that of its owner.
However, corporate owners are often forced to agree to personal guarantees for credit extended to the corporation, which negates some of the advantages of limited liability.
A sole proprietorship and a corporation both have the same access to funding in the form of credit, but corporations have the added benefit of being able to access equity financing by selling a stake in the company. This form of financing has its own costs and benefits, but the ability to access equity financing is a major advantage for corporations where it is appropriate.
Income and Taxes
A corporate structure allows the owner to decide how and when they receive income from their company. Not only can the owner of a corporation time their income so that it is most beneficial in terms of taxation, but they also have the option of paying out from the company in the form of dividends, which faces a lower level of taxation.
Corporations also provide an opportunity for income splitting. Dividends can be issued to all the shareholders. A shareholder is not required to be an active participant in the business activities in order to receive dividends. This means if your spouse or other family members are also sharehodlers then it provide the opportunity to redistrubture income to family members in lower tax brackets.
Most Canadian corporations also qualify for the federal small business deduction, which results in a low rate of 10.5% on the first $500,000 of taxable income.
The income from a sole proprietorship is all fully reported and taxed on your personal income tax return, which offers a comparatively limited opportunity to reduce tax exposure as a company. However, as a business owner there are a number of personal income tax deductions and exemptions that can equal or exceed the benefits of corporate tax treatment, particularly in terms of being able to write down losses and expenses.
Not only does the act of incorporation itself cost more in terms of direct fees and clerical work, but the maintenance of a corporate structure in terms of paperwork, accounting, HR and so on generally far exceeds the costs associated with a sole proprietorship structure.
Even when the benefits to incorporation outweigh the benefits to a sole proprietorship, those benefits have to be substantial enough that they justify the added cost and work that a corporate structure requires.
Incorporating vs Sole Proprietorship: An Important Decision Where a Professional Can Help
Many small businesses in Canada faced with the decision between incorporation and a sole proprietorship will easily be able to identify which structure is right for them based on these key factors. For those business owners faced with a more complicated choice, HR Accounting’s business professionals have the knowledge and experience to help guide you to the right decision for you and your business.
The structure of your company will determine its future for years to come, HR Accounting will ensure that you choose the right one.