forms of business organization

MODULE 1

FORMS OF BUSINESS

ORGANIZATION

LEGAL STRUCTURES

Three ways to organize your business are:

• Sole proprietorship

• Partnership

• Corporation

Owned by 1 person

Simple and inexpensive

Owner makes all decisions

Owner & business are “one”

Easy reporting & filing

SOLE PROPRIETOR

Advantages• Inexpensive to setup• Easy to administer

and get things going• Simple to shut down• Can use losses

against other sources of income in loss years

Disadvantages• Unlimited liability• Difficult to obtain

funding or bank loans

• Impression to clients and customers

• Not as much tax planning available

• Not a lot of options when selling

PARTNERSHIP

• Association or relationship between two or more people

• Can also be between corporations, trusts and other partnerships

• Also very simple to set up with nothing more than a verbal agreement if warranted

• All partners are bound by each others actions in the business (except in a L.L.P)

• Reporting is straightforward in most cases

Relationship between people

Other entities: Corps, trusts

Simple to setup even verbal

Partners bound by actions of other partners

Reporting straight-forward in most cases

PARTNERSHIPS

Advantages• Duties shared by

more than one owner• Expertise of the

partners• May be easier to fund

the business• Losses can be used

against other sources of income in loss years

Disadvantages• Joint and several

liability• Death of a partner

means the end of the partnership

• Disagreement among partners could be detrimental to business

Separate legal entity

Owners & management are separate

More difficult to setup & administer

Additional filing requirements

CORPORATION

Shareholders supply corporation with money by buying shares of corporation but do not own business or property belonging to corporation

Corporation’s income is subject to tax separately from shareholders

Directors manage corporation and delegate management of day-to-day operations to Officers

CORPORATION

Advantages

• Limited liability of all shareholders

• Easier to obtain funding and raise capital

• Shares can be sold or transferred for capital gain ($750,000 exempt)

• Continues after the death of a shareholder

Disadvantages

• Expensive to setup

• More administrative work needed

• Annual filing requirements

• Annual legal and accounting costs

• More difficult to shut down

AGREEMENTS

• Description of business

• Contribution to capital

• Division of net profits

• Authority to sign contract

• Expulsion and admission of partners

AGREEMENTS

Must deal with the “Probabilities” and issues that can arise in your business

• Death

• Disability

• Retirement

• Bankruptcy/insolvency

• Termination of employment

• Disputes

AGREEMENTS

Buy/Sell Provisions

• How to deal with deadlock in management

• Shotgun clauses

• Funding mechanism

• Mediation/arbitration

• Non-competition/Non-disclosure

FACTORS TO CONSIDER

Each form of organization has its advantages and disadvantages

These will be outlined so that you can make the best decision pertaining to your personal situation

Consult with a professional accountant and/or lawyer to make your final decision

Once a decision is made, you are not trapped but it can be an administrative hassle

PAYING TAXES

Proprietorship• Business activities reported on form T2125 Statement

of Business Activities to be filed with your T1 personal income tax return

• Return due by June 15th of the following year to avoid late filing penalties

• Any tax liability should be paid by April 30th to avoid interest

• Personal and business taxes are all filed together on one tax return

T1 General

2125 – Business statement

Due June 15 Pay by April 30

PAYING TAXES

Partnerships

• Also reported on T2125 to be filed with your T1 personal income tax return

• Income for the partnership is recorded on your taxes, with only your share being reported on the proper tax return line. Taxes will be paid on your share

• Due dates are same as proprietorship (June 15 due date, with taxes to be paid by April 30th)

• Partnerships with 5 or more partners will have other filing requirements

CORPORATE TAX REPORTING

Corporations

• Being a separate legal entity, corporations file their own tax returns

• Federal T2 and corresponding Provincial tax returns are required filing each year

• Due date is 6 months after your corporation’s year end

• Taxes owing should be paid either 2 months or 3 months after the corporation’s year end

DECISION TO INCORPORATE

• Canadian Controlled Private Corporation (CCPC)

• Small business deduction (on first $500,000 tax is

about 15 - 18% depending on your Province

• Ability to defer taxes

• The $750,000 capital gains exemption on share sale

• Facilitate cash management and discipline

• Pay dividends at a lower rate in the future

• Advanced tax planning strategies (IPP, PHSP, EPSP)

CHOOSING A BUSINESS NAME

Three types of business names to choose from:

1. Doing business under your own name – You do not need to register, i.e. John Smith

2. “Doing Business As” or “Operating As” – Gives you the right to operate a business of a specific name – Smith’s Construction

3. Incorporated name which includes the words Limited, Ltd., Corporation, Incorporated, or Inc. – i.e. Smith Construction Limited

Your own name: Do not need to register• John Smith

“Doing Business As” or “Operating As” – Trade Name must be registered• JS Contracting

Incorporation – Will include one of the words: Limited, Ltd. Incorporated, Inc. Corporation, Corp.• JS Construction Ltd.

REGISTRATION

• If you are doing business under your own name you do not need to register

• If operating under a trade name, you will have to register with your provincial authority

• To operate a corporation, you must file Articles of Incorporation with your corporate name

REGISTRATION

Corporations: Jurisdiction

Federal vs. Provincial• Ability to carry on business in different jurisdictions

• Federal 25% Directors must be Canadian

• Ontario less strict on names than federal

• Federal less expensive:

• Online: $200

• Offline: $250

• Ontario: $360; do online incorporation now

REGISTRATION

Corporations: Named vs. NumberedName- More $$- More distinct, descriptive

Numbered- Less $$- Determined for you- Depending on jurisdiction, the words “Ontario” or

“Canada” will be included in a number name.

CHANGING STRUCTURE

Sole Proprietorship Corporation

Been running your business as a proprietor but not want to incorporate

Section 85 Rollover• Transfer all business assets to new corp.• Typically will put the proprietor in the same

tax position as before he/she incorporated

CHANGING JURISDICTION

Provincial Federal

Most jurisdictions will allow corporations to migrate to another jurisdiction

File a Continuance

- Permission from jurisdiction you wish to leave

- Requires shareholder approval

Legal matter – see your lawyer

OWNER RESPONSIBILITES

• Decision-making and business management

• Contractual obligations

• Employees – Standards, Human Rights etc.

• Collect and remit sales taxes (GST, PST)

• Withhold taxes from employees and remit (CPP, EI and tax)

• File appropriate tax returns as discussed

SHAREHOLDER DUTIES

• Own the corporation – liable to 100% of investment

• May be asked to guarantee corporate debts

• Annual S/H meetings: pass resolutions, elect officers, auditors

• Approve bonuses, dividends, loans, etc.

• Receive and approve financial statements

• Approve fundamental changes (USA)

ROLES/DUTIES OF DIRECTORS

• Manage or supervise management of business

• Fiduciary Duty and Standard of Care (make further inquiry if a reasonable person would)

• Errors that could have adverse impacts

• Not responsible for breach duties if acted in good faith by relying on financial statements of independent experts

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Or take individual modules such as this presentation:

Module 1: Forms of business organization

Module 2: Starting a business step-by-step

Module 3: Compensation strategies

Module 4: Tax planning and strategies

Module 5: Expenses and deductions