Arguably the biggest decision you have to make when you’re planning your new company is the type of structure it should have. Canadian law recognizes several business structures, such as a sole proprietorship and a limited partnership, but by far the most flexible arrangement is the corporation. Corporations are legal structures that in many ways resemble a person; they can own property and must pay corporate tax, for example. Different types are regulated and taxed in various ways, and you have to weigh the pros and cons of each form before you start the paperwork. By choosing the right corporate form to do business, you’re giving your company a leg up from the day you open your doors.
Some Advantages of Incorporating
Forming a legal entity confers a lot of benefits on your business. The most important may be protection from liability. The corporate principle of limited liability means that you can never lose more on your business than you chose to invest. If you put half your life savings into a taxi company, for instance, and then that company goes under with a huge debt load, Canadian law only allows the liquidation of the company’s assets and not yours, so the worst outcome possible is that you lose half your savings, rather than all. This protection is a feature of almost every corporate structure currently in use, and the safeguard it provides encourages innovation and risk taking among startups. Corporations, as opposed to partnerships and sole proprietorships, have another large advantage in raising funds. Every company needs money to operate, and corporations have several methods for getting the cash they need to grow. Like individuals and other legal structures, they can take on debt by borrowing, either directly from a lender or by selling bonds. A unique feature of corporations is the ability to sell stock, or shares in the company, to get money from almost anyone who’s willing to invest. This flexibility helps new and untested corporations find investors and rapidly expand into new opportunities.
Five Structures and Their Requirements
Canada recognizes five broad categories of corporations. Each has advantages for certain types of businesses and tax rates, but none of them is perfect for everybody. Be sure to check in with a professional for advice before settling on one of these forms for your business.
- Canadian-controlled private corporation (CCPC): This is arguably the best form to choose for most Canadian citizens who want to start a corporation. The Canadian Revenue Agency (CRA) has a very long list of requirements for what counts as a CCPC, if only because of the advantages this form confers on its owners. These companies get preferential treatment at tax time because they are wholly owned by Canadian citizens and do business in Canada.
- Other private corporation: These are privately owned companies that don’t meet the strict requirements for a CCPC.
- Public corporation: These corporations are traded on the stock exchange, and anyone may buy a controlling interest.
- Corporation controlled by public corporation: These are private corporations owned or controlled by a public corporation. This generally covers subsidiaries that a public firm starts for a specific purpose, such as a restaurant chain.
- Other types of corporations: This is the miscellaneous category in the CRA’s rulebook. Every corporation that doesn’t fit into the other categories, such as a crown corporation, goes here.
Your Corporation Type and the CRA
All five corporate types are taxed differently, and they must declare their status on tax forms. Private corporations enjoy plenty of benefits from being closely held. Under the Tax Act, these entities can sometimes pay their investors without it being considered a dividend, they can push some of their shares and capital into tax-exempt status, and they can earn dividends on their investments without necessarily owing taxes. CCPCs have it even better; in addition to the benefits of being private, a CCPC may be taxed at a lower rate for the first $500,000 of its revenue and its shareholders can collect tax-exempt dividends. The rules for offering stock options are also relaxed for CCPCs, and they qualify for hefty tax credits if their activities meet the CRA’s very generous definition of scientific research. Other corporation types face more challenges. Public corporations, for example, must pay separate corporate and shareholder taxes, though it can be easier for these businesses to reorganize and raise money. They do get some tax breaks, but these are mostly tied to employee benefits, such as pension plans and retirement benefits. Public corporations are also generally exempt from the 6% tax specific to private corporations, though they don’t get the 10% credit a CCPC enjoys. Other structures are subject to regulations and corporate tax rates that can get really hard for a layperson to understand. By checking with a lawyer and financial planner who specialize in corporate structures and tax law, you can settle on a form that’s ideal for the type of work you plan to do and which maximizes your profits with the lowest tax burden you can get.