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Should You Incorporate?

By Allan Morse

If you are the owner of a sole proprietorship, it may make sense to consider incorporating. In this article, we look at some of the issues you should think about before making your decision. Here are some tax considerations:

Is the business profitable?
In the first few years of operation, a business will often generate losses as it gets up and running. If you hold the business personally, the losses can be deducted against all other sources of income, assuming the business has a reasonable expectation of profit. If a business is incorporated, losses can only be applied against corporate income, not personal income.

Is the business producing more income than the proprietor needs?
If so, then incorporating may allow for income splitting (i.e. dividends paid to other adult family shareholders) and tax-deferral opportunities due to the small business deduction. Little or no benefit would be gained by paying all the profits of the company, via salary or dividends, to the owner-manager.

Does a corporation really pay lower taxes?
Small businesses enjoy a greatly reduced tax rate of about 20% on the first $300,000 of active business income due to the small business deduction. In comparison, personal tax rates are up to 48% on taxable income over $115,000.

Is retirement or succession planning being considered?
If either is being contemplated for several years down the road, incorporating can reduce or defer the taxes that would otherwise be payable. If a business qualifies as a small business corporation, a portion of any gain on the sale of the shares may be exempt from tax. Up to $500,000 of capital gains can be sheltered through the capital gains deduction.

Can an incorporated
business write off more expenses? Unfortunately, this is a myth. An incorporated business is still limited to writing off expenses incurred to produce income.

Other considerations

Limited liability: Generally, creditors of a corporation cannot seize the personal assets of the owner-manager unless the owner-manager gave personal guarantees for loans of the corporation.

Tax holiday: In several provinces, newly incorporated businesses are offered up to three years of income or sales tax relief.

Non-taxable benefits: A corporation can offer benefits that are not available to sole proprietorship owners, like group health and pension plans.

Additional costs: A corporation is required to file its own tax returns and hold annual shareholder meetings, leading to higher administration, legal and accounting costs annually.

Capital tax: Some corporations are required to pay a tax on their “taxable capital.”

Allan Morse is a Senior Investment Advisor with RBC Dominion Securities in Charlottetown, PEI. Over his career he has focused on the importance of financial planning which he feels helps clients set clear, attainable goals. If you have any suggestions regarding this article or any issue regarding financial or investment planning, please call him direct at 1-800-463-5544..

You can Email Allan here.