As your business grows, you may choose to change its legal structure from a sole proprietorship to a corporation. This change offers many advantages, including limited liability and increased flexibility for financing and tax planning. When considering making the switch, keep in mind that you must also adjust your bookkeeping practices to comply with laws that regulate corporations.
Differences Between Sole Proprietorships and Corporations
A sole proprietorship doesn’t stand alone as a legal entity as it’s just you operating a business. You may have registered a business name, but legally that’s only a marketing tool. Corporations, however, remain separate and distinct from their owners, the shareholders, and they have directors that make business decisions. In practice, you may be the only shareholder, director, and employee of the corporation, but the Canadian government still considers it a separate entity nonetheless.
When you start a corporation, you have various roles in the company, and understanding them helps you know which hat to wear when you make decisions. As a distinct entity, the corporation needs to prepare financial statements, file annual tax returns, and pay its own taxes. This makes it essential to keep your corporate books, bank accounts, and government registrations separate from your personal financial records.
Properly documenting your corporate transactions proves the golden rule for successful bookkeeping and tax compliance. This means that when you buy something business related, you need to keep your receipts and proofs of purchase. Using accounting software, such as QuickBooks Online, that’s customized for your particular type of business simplifies expense tracking and financial reporting. When you make official corporate decisions as a director, it’s important to write them down in a dated and signed formal resolution. Putting it all on paper helps you remember how and when you made these decisions and supports them should the Canada Revenue Agency (CRA) audit your corporation. Performing bookkeeping and record-keeping tasks on a regular basis also helps you stay on top of your small business game by making you instantly aware of financial issues. This leaves you more time and energy to focus on your corporation’s growth.
Best Practices When Transitioning
Transferring your business assets from a sole proprietorship to a corporation has tax and legal consequences. As a rule, you must make these transfers at fair market value. If you have assets of great value that you need to transfer to the corporation, it might be a good idea to get an independent valuation. You can transfer most businesses tax-free to a corporation by using rollover provisions contained in the Income Tax Act. Here again, clear documentation helps immensely, so you might want to have a professional review or draft your contracts and fill out the appropriate CRA forms.
Incorporating your business usually means you’ve experienced growth, and as such, it can serve as an exciting step in the life of your company. It helps to keep in mind that this means you and your business now comprise two distinct entities, and separating your finances can keep issues from cropping up down the road. No matter which small business setup you use, you can keep your books accurate and up to date automatically by using QuickBooks. Change the way you manage your finances now.