Incorporation vs. Sole Proprietorship
When a taxpayer decides to start their own business, he or she must consider the type of business structure best suited to their individual needs. The most common forms of business arrangements are either a sole proprietorship, or a corporation.
A sole proprietorship is the most basic form of business organization and can be used in a wide variety of circumstances. They are relatively inexpensive to set up and require few legal formalities. Rather, a sole proprietorship exists whenever an individual carries on business for his or her own account without the involvement of other individuals, except as employees.
A major disadvantage of sole proprietorships is that there is no limited liability for the sole proprietor; all business and personal assets may be seized in satisfaction of the sole proprietor’s business obligations and liabilities. That is, all obligations including losses and liability associated with the business are the sole proprietor’s responsibility.
If you choose to operate as a sole proprietorship under a name other than your own, you will require a Master Business License.
A corporation is a legal entity separate in law from its owners and it can own property, carry on business, possess rights, and incur liabilities. Although the shareholders own the corporation through their ownership of shares, they do not own the property belonging to the corporation, and the rights and liabilities of the corporation are not the rights and liabilities of the shareholders.
If a business venture involves a great deal of risk, it is preferable to incorporate the business so as to isolate and protect personal assets from corporate creditors and/or lawsuits. Sole proprietors are liable to the full extent of their personal assets for the liabilities of their businesses, whereas a shareholder’s liability to creditors of the corporation is limited to the amount of the shareholder’s investment.
A common reason not to incorporate and to operate as a sole proprietor would be that your business is expecting startup or operational losses in its initial year(s) of business. These losses can be deducted against other sources of personal income when they are from an unincorporated business.
A corporation is taxed at a significantly lower tax rate than an individual. A good rule of thumb is if you can leave funds in the corporation, that is a good time to incorporate. Incorporation allows a taxpayer to pay the lower corporate tax rate, and then to only pay the personal tax rate on the amount he or she transfers out of the corporation into their personal accounts. The retained earnings, or the ‘savings’ can remain in the corporation for future use.
In addition, the small business deduction provides corporations with significant tax savings.
Sole Proprietor Advantages
- Easy and inexpensive to register;
- No GST/HST registration if the threshold is not met;
- Light regulatory burden;
- Minimal working capital required for start-up;
- Easier accounting; and
- Some tax advantages, if losses occur.
Sole Proprietor Disadvantages
- Unlimited personal liability;
- Income is taxed at your personal rate; and
- Can be difficult to raise capital.
- Limited liability;
- Ownership is transferrable;
- Separate legal entity; and
- Significant tax advantages.
- More stringent regulations;
- Accounting is more complex and expensive;
- Must maintain corporate records annually; and
- More expensive to set up.
If you are thinking about starting a business, give Rosen Kirshen Tax Law a call today! We have the corporate, and tax experience necessary to ensure you choose the best business structure that suits your individual needs. We can even assist you with a tax plan to minimize your taxes moving forward!
This article provides information of a general nature only. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in this article. If you have specific legal questions you should consult a lawyer.