Should you incorporate?
There are advantages and disadvantages to incorporation depending on your situation. The following points will help you decide whether it makes sense to incorporate your business. Note that even if you do not incorporate right away, you can choose to incorporate and roll your business into a corporation in the future.
Advantages
- Tax Deferral/Savings – If you are able to put away (i.e. not live on) 20-30k of income that you earn every year, you can start to achieve significant tax savings through a corporation. For example, let’s say you needed 50k of income to live off of every year, but your business brought in 80k. At your personal marginal tax rate of 30.5% you would pay $9,150 on this additional income. Had you incorporated, you would have only paid $3,300 on this additional income, since the tax rate on income eligible for the small business deduction is 11%. In this example, the taxpayer would have achieved a $5,850 tax savings by incorporating. In future years when the taxpayers’ personal income requirements are lower, the taxpayer can withdraw on these funds in the company via dividends or salary at a lower personal marginal tax rate.
- Limited Liability – Running your business through a Corporation protects you from creditors going after your personal assets. Since there is a layer of liability created with the corporation, creditors are only entitled to make a claim against any assets of the corporation. Note that there are some instances where creditors can pierce the corporate veil and hold the shareholder liable such as when there are taxes outstanding, or personal guarantees made on loans.
- Income splitting – Running your business through a corporation allows you to split up ownership easier by issuing shares. If you and your spouse or common law partner both contribute to the business, or if you have other business partners or family that are a part of the business, they can be issued shares and hold a percentage ownership of the business. Note that the government has been reviewing this area of planning and over the past couple of years and have introduced a new term called TOSI (Tax on Split Income). To summarize, if you are paying dividends to shareholders, these amounts should be reasonable based on the work contributed to the business. Note that any dividends paid to minor children will be taxed at the highest personal marginal tax rate. It would be easier to pay them a reasonable salary based on work completed.
- Lifetime Capital Gains Exemption – If you sell the shares of your business, you may be entitled to claim your LTCGE on the disposition of those shares. In order to be eligible, the shares must be QSBC (qualified small business corporation) shares. For 2020, the LTCGE limit is $883,384 for corporations other than farming or fishing (limit is $1,000,000). You can effectively shelter the tax on up to 883k of the value of the QSBC shares that you sell.
Disadvantages
- Compliance work – Additional tax filings required (corporate income tax return) and annual returns must be filed every year.
- Increased paperwork – Corporations must maintain a minute book containing the corporate bylaws and minutes from corporate meetings.
- Can’t offset losses against personal income – If the corporation experiences losses, it can only use these against future corporate income. These losses cannot be used to offset other personal income.
Book a consultation with KENNEDY to learn more about incorporation and how we can set you and your business up for success.
