One of the first questions new business owners need to answer is how to legally structure their business, a question often phrased as, "Should I incorporate my business or not?" Below are seven reasons to incorporate your business. Whether you're starting a new business or running an established enterprise, you'll probably want to incorporate if any of these situations apply.
1. You need to incorporate if you’re trying to get financing.
"Certainly, you will need to probably incorporate if you want to look for financing, because that demonstrates to a lender that you are committed to going for the long haul," says Ted Mallett, vice-president of research and chief economist at the Canadian Federation of Independent Business (Ann Perry, Banking on a home-based business, TheStar.com).
Whether or not it's true, lenders generally have the perception that businesses that bother to incorporate are more serious and stable than those that don't.
2. You need to incorporate to be eligible for some government programs.
3. You need to incorporate if your business involves potential liability that could seriously damage your personal finances.
Roger Haineault suggests considering what the worst that could happen is when trying to answer the question, "Should I incorporate my business?"(Pros and cons to incorporating, New Brunswick Business Journal). Suppose you're a painter, he says. The worst that can happen if a customer is dissatisfied with the job you do is that you might have to repaint some rooms.
But the worst can be much worse if the painter has hired a worker who falls off a roof. As a sole proprietor, the painter could be wiped out financially, whereas the most a corporation can lose is the value of its assets.
What's the worst that could happen in your business? Your projected liability could make the cost to incorporate your business a bargain.
4. You need to incorporate if you're trying to work for other businesses.
Some businesses, especially larger corporations, will only hire contractors that are incorporated. So if you don't incorporate, you have no chance of working for them.
5. You need to incorporate if you want to take advantage of the Lifetime Capital Gains Exemption when you sell your business.
If you sell shares of a qualifying corporation for a profit, the first $750,000 of your gain on a lifetime basis can be received on a tax-free basis.
What's the catch? Well first of all, a business owner qualifies for the exemption only if the company is a Canadian-controlled private corporation with generally 90 per cent of its assets involved in active business. Second, the shares must have been owned by the owner for at least 24 months before the sale of the business and more than 50 per cent of the corporation's assets must have been used in an active business carried on primarily in Canada throughout the 24-month period immediately before the sale.
Bruce Ball, a recognized authority on capital gains, succession and retirement planning explains how to take steps now to make sure your company can benefit from the Lifetime Capital Gains Tax Exemption in the future, such as crystallizing your exemption (The Importance of the Capital Gains Exemption for Owner–Managers (Canadian Federation of Independent Business).
6. You need to incorporate to take advantage of the Small Business Deduction.
For Canadian-controlled private corporations claiming the small business deduction, the net tax rate as of January 1, 2008 is 11%, while the net tax rate for other types of corporations as of January 1, 2008 is 19.5%. (Note that, once again, this tax advantage is only available to Canadian-Controlled Private Corporations. See Types of Corporations in Canada.)
7. You need to incorporate if you're making enough money that you need to manage your income.
For instance, in a discussion about whether or not to incorporate in the About Small Business Canada forum, one user wrote:
"The beauty of having that separate legal entity means you can also throttle how much you pay yourself in any given year. You can hold it in the company or not depending on other things going on in your life. Think of it as a giant surrogate RRSP. As a sole proprietor, if you have a banner year, you're going to pay serious tax right away that year."
If you incorporate your business, you can control how much revenue you take and therefore, how much personal income tax you pay.
Other Reasons to Incorporate Your Business
I've given you seven reasons to incorporate your business here but there are more. One that springs to mind is public perception. Generally I think the public views incorporated businesses more favourably. There's a certain amount of prestige attached to an "Inc." or a "Ltd." After a company's name.
But should you incorporate your business? My best advice is to consider the reasons to incorporate I've presented above, and if you're still unsure about whether or not you should incorporate your own business, talk to your accountant or lawyer about it.
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