Is incorporating your business the right move?
Toronto business lawyer Anton Katz says there are several key reasons for incorporating a business, but it’s important to keep in mind it’s not a one-size-fits-all option and it’s not for every venture.
“Generally, you would incorporate for a few important reasons, possibly the most important reason being limited liability,” he tells AdvocateDaily.com. “With a partnership, you don’t have limited liability — the partners are jointly and severally liable for the act and omissions of each other and their personal assets (the non-partnership assets) are also exposed.”
He explains that within the context of a corporation, liability is limited to the extent of your investment. For example, if one acquires 100 common shares in a corporation at $1 per share, the limit of the shareholder investment is $100. If the corporation fails, then the extent of the liability on behalf of that shareholder would be $100.
Katz says limited liability encourages business activity and investment. “People go into business and they take risks because they’re entrepreneurs,” he says. “It’s a classic situation where the more risk you take, the more likely you are to succeed. The government recognizes that people are more likely to engage in business activity and invest in the economy and create jobs if they know in advance that they have limited liability.”
The second reason to incorporate, he says, is for certain tax advantages.
“Tax might be an even more compelling advantage than limited liability because the nature of the business activity may not be inherently risky. It may be something where you have no dealings with the general public or you have one customer and the chances of being sued are quite remote,” Katz says. “It could be attractive to have certain tax advantages that were not available to you as an individual or through a partnership. In some respects that’s a no-brainer for very many people.”
He says the third main advantage of incorporating is perpetual existence. Unlike a partnership — which can be entered into for a fixed period of time or dissolved upon one partner giving notice to the other — a corporation has perpetual existence and will come to an end only in the event of an act such as dissolution of the corporation.
“Look at Bell Canada, for example, where the identity of the shareholders changes over the years. Every day, there are tens of thousands of people buying and selling shares in Bell,” he says.”The board of directors may change every few years as well but the corporation continues.”
Perpetual existence, Katz says, provides a certain level of credibility and allows third parties dealing with the corporation a level of comfort that they’re dealing with an ongoing entity that won’t come to an end if a certain member leaves or passes away.
While you can get template articles of incorporation, bylaws and resolutions online, Katz says they may not be relevant for your jurisdiction or appropriate for your situation.
“Incorporation doesn’t always makes sense,” he says. “Certainly there are initial costs to incorporate — both legal and accounting — and there are annual costs, like paying your lawyer to prepare an annual resolution and for your accountant to prepare financial statements for your tax return.”
He adds if you are involved in a low-risk business venture that is losing money — then there would be no real tax advantage and limited liability wouldn’t be an issue. For example, if you have one customer and abundant insurance, you may not need limited liability. If you’re losing money, it may be more advantageous to have those loses offset against personal income.
“The very first question I’ll ask my clients if they want to to incorporate is, ‘Why?’ If they can’t satisfactorily answer those main objectives — particularly tax and limited liability — then I might say that it makes sense to hold off for a period of time,” he says. “I don’t think the Internet will have that type of conversation with you.”