Are you paying too much in tax? Have heard that there are tax savings to be had if you incorporate your small business? Yes, that might be true, but is that the right advice for you and your small business? The answer is – that it depends. Generally, the higher the net income of your small business, the more tax advantageous it may be to incorporate, but tax minimization is not the only consideration.
Have you considered the following: whether your personal assets are exposed to liability from the business? Are you planning to sell your business now, or in the future? What benefits can arise from estate or succession planning? These are several excellent reasons to involve a professional and ensure that you’re able to make an informed decision on whether it’s beneficial to incorporate your business, or not.
What is a corporation?
A corporation is a separate legal entity. The corporation issues share to the owners or shareholders. Being a separate legal entity, a corporation pays corporate income tax and has other filing requirements and obligations in excess of those of a sole proprietor.
Advantages of incorporation:
- Limited liability – the liability of the shareholders is usually limited to the amount the shareholders have invested in the corporation. The personal assets of the shareholders may be protected from lawsuits against the corporation.
- Paying income tax at the small business rate – a Canadian controlled private corporation pays a much lower tax rate of income tax on the first $500,000 of active business income than would be paid by a sole proprietor – 15% in Ontario for 2016.
- Capital gains deduction – another tax advantage of incorporation is the lifetime capital gains deduction on the sale of shares of a qualifying small business corporation – up to approximately $825,000 in 2016.
- Income splitting – consider adding your spouse or other family members in low-tax brackets as shareholders who can receive tax-efficient dividends from the corporation and allow you to split income to potentially save thousands in tax each year.
Disadvantages of incorporation:
- Incorporation is a business structure with high initial setup costs and will likely involve a trip to the lawyer’s office.
- Incorporation is a complex business structure. It is very important to take extreme care in setting up classes of shares, deciding who will be shareholders (spouses, children) and how much control they will have. Professional advice can avoid serious problems.
- Business losses cannot be written off against other income of the owners (shareholders), unlike as a sole proprietor.
- More administrative work is required for a corporation. This includes annual reports filed with the corporate registry and corporate tax returns which are filed separately from the owners’ personal tax returns.
If you’re considering whether to incorporate, you need professional expertise that’s been personalized to you, your goals, and your business. For some of our clients, this means having a conversation with them to find out where they are now, what are their goals, and where they see themselves in the future. If you have any questions or concerns about whether or not to incorporate your business, feel free to email me at firstname.lastname@example.org.