- March 13, 2018
- Posted by: Asif Rahemtulla
- Categories: Accounting, Bookkeeping, Business
When setting up your business, there are lots of decisions to make. One of the most important, particularly for your tax situation, is whether you should choose to be a sole proprietor or a corporation. There are some significant differences between the two, so let’s break down each one and why you might choose it as an option.
In Canada, structuring your business as a sole proprietorship means that you are the one and only owner and make all the decisions. You also keep all the profits and have no shareholders. Setting up a sole proprietorship is easy and very cost effective.
Along with keeping the profits, though, you are also personally liable for any debts or other obligations. This means that your personal assets may be at risk if you owe money on your business that you cannot repay.
Income from a sole proprietorship is included in your personal income tax. During periods of lower profits, you would be taxed at lower tax rates. If your business does well, however, that income could translate into a higher marginal tax rate and more taxes being deducted. All profits from a sole proprietorship are subject to your personal tax rate.
You may choose sole proprietorship if you are the only one involved in your business, anticipate low debt load, and want quick and easy set up.
Another way to structure your business is to incorporate. Incorporating your business makes that business a separate legal entity from you. When your business is set up as a corporation, you become a shareholder. You can also then add other shareholders, which means they could share in the decision making and the profits or losses proportionately. Setting up a corporation is more expensive and requires more paperwork and documentation, both initially and annually.
Because corporations are separate legal entities, you usually are not personally liable for debts or other obligations incurred under the business. Corporations also file their own taxes, so a corporation’s profits are not added in to your personal income (except for what you draw as a salary or dividend).
If you want to sell your business, the corporation can continue without interruption by changing the shareholders.
You may choose to incorporate if you have complex business needs, are concerned about debts and obligations, want to limit your liability, want other shareholders in your business, or want to mitigate risk of loss of personal assets.
It’s always a good idea to consult with a professional when deciding how to structure your business. As with most things, there is no one-size-fits-all, and what fits your business best will depend on a number of factors.