Incorporation--Pros And Cons Of Incorporation

By Jan Jaluvka

Incorporation or not? This is of the most important and most frequently asked questions when starting a new business. The answer to this question can be found by looking carefully at your own personal situation and some of the factors considered below.

There are two basic types of business ownership or organization in Ontario: Unincorporated and incorporated. The first takes the form of either a “sole proprietorship”, where there is one individual person as owner of the business, or a “partnership”, where two or more persons are involved as owners of the business. Under this form of business structure the person or persons involved are not merely the owners of the business; they are the business, particularly in the sense that they personally share in the profits of the business and they also personally bear unlimited responsibility for all debts and liabilities of the business.

The second type of business takes the form of a “corporation” or “limited liability company” (often referred to as a "company")which is set up under the applicable law as a stand alone legal entity with its own legal identity separate and apart from the individual person or persons who own it. As such, the corporation carries on the business rather than the individual persons themselves. The individual persons participate in the business through ownership of shares in the corporation. This participation allows them to share in the profits of the business through share dividends but normally limits any financial losses they might personally sustain to the amount of money they personally have invested in the corporation.

Advantages of an unincorporated business include:

1. Simple legal structure
2. Modest startup costs and lower recurring costs
3. Deductibility of losses from the business against the business owner’s taxable income earned from other sources
4. Fewer legal and regulatory requirements to comply with

Disadvantages of an unincorporated business include:

1. Unlimited personal liability of the business owner for the debts and liabilities of the business
2. Taxation of business income in the business owner’s hands at the owner’s personal income tax rate which may be greater than corporate tax rates
3. Limited opportunities to defer payment of income tax on earnings retained within the business
4. Limited opportunities for the business owner to split business income with other members of the business owner’s family
5. Inflexibility in setting fiscal year ends caused by the general legal requirement to have a December 31 year end

Advantages of an incorporated business include:

1. Limited liability of the business owner as shareholder for debts and liabilities of the business
2. Lower income tax rates on higher levels of net business income
3. Ability to keep business income within the corporation as retained earnings as a result of lower corporate income tax rates
4. Expanded income tax deferral opportunities
5. Greater opportunities for income splitting with other members of business owner’s family
6. Enhanced access to business financing through the corporate entity
7. Simplified change of business ownership by transfer of shares in the corporation
8. Continuity of ownership and management facilitated by corporate legal structure

Disadvantages of an incorporated business include:

1. Higher startup expense due to the legal costs of incorporation
2. More legal and regulatory requirements to comply with
3. Greater business record keeping requirements
4. Lack of deductibility of losses from the business against business owner’s/shareholder’s taxable income from other sources

I trust that you have found the general information above to be useful to you. For legal advice applicable to your specific situation, I strongly urge you to contact an experienced business lawyer to assist you in that regard.

For other legal articles dealing with business and corporations see the following: Niagara Falls Corporate Lawyers Can Help Keep Your Business Out Of Trouble

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