Steps to Incorporation, Part 1

We’ve been discussing Corporations in great depth over this blog series and many are asking “How do I start a Corporation?”  This is what we will cover in this blog series: Steps to Incorporation.  As always, this is just a guideline and you should always consult with your professional to ensure you are taking all the steps you need to for your corporation as each corporation and business is unique.

The first step, once you’ve decided to incorporate, is to determine if the corporation is to be a Federal Corporation or a Provincial Corporation.  This really depends on where you will be conducting your business from.  If you are just operating within a province then of course you just need to incorporate in that province.  However, if you want to conduct business in multiple Provincial Jurisdictions then you may want to look at the possibility of setting up a Federal Corporation (Charter).  If you are just operating in a couple or a few provinces you can incorporate in your province and then file for extra provincial registrations for the other province(s) you will conduct business in (instead of incorporating Federally).  Having too many extra provincial registrations can become cumbersome, so if you are conducting business in many provinces then you should definitely look at a federal corporation.   Keep in mind here that when we talk about conducting business in more than one province, we are not just talking about having a few clients or customers that purchase your product or service outside of your province.  When we talk about conducting business we are talking about where you are actually doing the business.  For example you may have offices in multiple provinces, or you may travel back and forth regularly to do business in other provinces.  This is completely different from just having some out of province clients or customers.  If you only have a few out of province clients or customers, then you do not need to extra provincially register, nor would you need a federal corporation.

We’ll continue our blog series on Steps to Incorporation next week!

Structuring your Corporation part 3

Another question that comes up often is “should I make my kids a shareholder of the corporation?”  Although there could be benefits of making your kids a shareholder, it is a very serious consideration and you must look at the potential issues you may face in doing so.  The main reasons why people want to make their kids a shareholder are, first, to give part of the ownership to the kids giving them a sense of ownership and potential option to be able to pass on the business to them easier.  Second is for income split using dividends.  To receive dividends they will be 18 years of age, and if you make them a different class of shareholder they can receive dividends in the amount you choose each year (based on profit).  The main potential issue that you have to consider here is how well you know your son(s) or daughter(s), how well you will know them in the future, and how well you know their spouse(s) or future spouse(s).  Kids do go estranged and sometimes marry a spouse that could cause potential issues.  What I’m saying here is you have to consider who these owners (shareholders) and their spouses will be in the future as they may have a say in your corporation!

To get around this issue and to look at further structuring efficiently, we begin to look at trusts and holding companies.  We will not go too deep into these here in this blog, but please do look for my other blogs on trusts that go more in depth!  By setting up a trust that owns the corporation’s shares you can income split to all the beneficiaries of the trust at whatever percent you want without any of the beneficiaries becoming an owner of the corporation!  Having a trust own your corporation not only benefits you with ultimate splitting of dividends, but could also allow you greater benefit if you ever sell the shares of the corporation and much more!  Add a holding company into the structure by having the holding company owned fully by the trust, and in turn having the holding company owning some shares of your operating company.  This allows for you to issue tax free dividends to the holding company.  Once these dividends are issued into the holding company tax free you can do what you like with them, including holding on to them until a later date, lending them out, or paying dividends to your trust and ultimately the beneficiaries (you and your family)!

Again we are just covering some basic guidelines, tips and strategies that are very effective.  There are unlimited options and possibilities when it comes to structuring so please don’t hesitate to email us or give us a call!

Structuring your Corporation part 2

Here’s the second part of my blog series on “Structuring your Corporation.”

Another note here on splitting the profits from a corporation between spouses is to give both spouses different classes of shares, for example one spouse could have class A shares and the other could have class B shares.  This allows for different amounts of dividends allowed for distribution between spouses for tax planning effectiveness.  If both spouses have the same class of shares, they have to take the same amount of dividends.  It is always advantageous in tax planning for 2 spouses to be able to have control on how much income they receive, and using different classes of shares allows you full control as to “who gets how much income” when it comes to dividends!

This of course differs from multiple people, who are not married, partnering in a corporation.  In the case of an actual partnership with other shareholders you may want to have the same class of shares so that each partner gets the same amount of dividends as they are declared!  Here is also where other classes of shares may come in.  As mentioned there are various classes of shares that can be issued from a corporation so planning is essential.  Don’t do this on your own, or go to a registry agent to structure your corporation, seek professional help.  Kustom Design can assist you in getting your footing when it comes to structuring and we can then further assist you in working with the right legal professionals to finalize and implement the best structure for you!

If you are in a corporation that has multiple shareholders partnering, you definitely want to consider having a Unanimous Shareholder Agreement (U.S.A.) drawn up by a lawyer.  Partnerships have to be given a lot of consideration and must have agreement from day 1 when the structure is formed.  It is best to spell everything out in writing through a contract, and to consider potential outcomes such as death of partner, one partner becoming unable to work, one partner buying out the other partner, and so forth. 

Please check back to read part 3 of this blog series.

Structuring your Corporation part 1

There is so much to consider in structuring a corporation and this blog will definitely not be able to cover all the considerations and options for structuring, nor should this blog be misconstrued as legal advice.  That said, in this blog series I will give you a lot of very useful information and tips on structuring corporations.  Because this blog series is on corporations, we will not be going into any great detail on the various other entities and contracts you can use in your structure, such as trusts and Limited Partnerships. 

There are virtually unlimited options when it comes to structuring your corporation as there are many different classes of shares within multiple categories.  The different classes of shares are in letters, such as class A shares, class B shares, class C shares, class D shares etc.  The 3 main categories of shares are:

1. Voting Shares – Used for the main shareholders with voting rights
2. Non Voting Shares – Used for other shareholders with no voting rights
3. Preferred Shares – Shares with preferred treatment, typically used for attracting investors or in restructuring existing corporations

Let’s start with some basics that you should know in structuring a corporation.  First you should always consider making both you and your spouse a shareholder in your corporation if you are married.  In making both spouses a shareholder you are opening up the door for income splitting the profits of the corporation through dividends.  Being a shareholder does not mean liability is taken, in fact it is typically the director that would take all liability of the incorporation as we’ve discussed in a prior blog.  So both spouses can be shareholders and receive benefit, while only one spouse could be a director taking the liability on.  It is always good to keep one spouse sheltered from liability. 

We’ll continue our blog series on “Structuring your Corporation” on my next blog post.

When to Incorporate? Part 2

Here is the 2^nd and last installment of the “When to incorporate” blog series.

On the previous blog, you will notice that when we spoke of the $30,000 of tax free dividends, we stated the fact “if this is your only source of income”  If you have other sources of income the $30,000 (approx.) is not tax free, but you will pay some tax at a lower rate.  The reason why you always pay a lower tax rate on dividends from Canadian corporations is because of the dividend tax credit that you get when claiming dividends on your personal tax return.  If you have other sources of income, particularly large amounts of income, you may want to incorporate earlier.  As discussed, when you set up a corporation you are forming a new entity.  This is a separate entity from you and therefore the income of the corporation does not go on your personal taxes unless you receive or claim income from the corporation.  This differs greatly from a sole proprietorship where you and the business are one in the same for income and liability purposes.  So again, if you have other sources of income you may want to incorporate for tax savings before you are netting $35,000 so as to keep corporate income separate from your personal income that may be in a higher tax bracket.  When in doubt on this one, come see us and we can run scenarios to see when you will start saving tax with a corporation.

The second and third reasons of “When to Incorporate?” are much simpler, yet can take serious thought and consideration!  The second is liability. If you have major liability potential in the product or service you are providing, you may want to incorporate right from the beginning of the business so as to take as the least amount of personal liability.  You may also want to look at trusts and holding companies that we will discuss in other blogs.  You must always asses your potential liabilities when starting any business. 

The third reason is to make your business attractive.  As discussed in the last blog if you want to make your business attractive you should look at incorporating.  If you are going for it 100% and you expect to do well quickly then you may as should look at the option of incorporating right from the beginning!

Watch for my next blog where we will begin discussing the structuring of a corporation.

When to Incorporate? Part 1

In my last blog we discussed Why Incorporate?  This completely ties into when to incorporate as you will see from this blog.  There is no absolute answer to “When to Incorporate?” as everyone’s situation is different, however these are some general guidelines to help you know when it’s right for you to incorporate.  Let’s look at the 3 reasons that people incorporate and how they tie into when to incorporate.

The first is tax savings as incorporations that earn active income receive what’s called the Small Business Deduction which allows Corporate Income taxes (Federal & Provincial combined) to be as low as 14% in Alberta (currently). This low tax rate on active income earned in a corporation is static up to $500,000 active net business income.  Once you make over $500,000 in a corporation you pay a significantly higher tax rate, but most corporations will never need to go over $500,000 in net income (after expenses).  If you see in your projections that your corporation will exceed $500,000 it is essential that you plan in advance to look for ways to avoid this.  For example you may structure 2 separate, non-related, corporations to provide 2 separate products or services your one corporation may have provided so each could stay under the $500,000 Small Business Deduction Limit.

Individuals, on the other hand, have what’s called a Graduated Tax system, which means there are tax brackets that make individuals earning more income pay higher rates of tax.  There are various levels that trigger the higher rates of tax, and there are even personal tax exemptions that allow you to pay no tax if you have very low income.  This is why a lot of people start as sole proprietors because they will pay less personal tax as sole proprietor that earns up to about $30,000 of net income (not including income splitting in Alberta).  Once you make about $30,000 in your corporation it changes and you can now save more tax using a corporation.  This is because shareholders of the corporation can receive about $30,000 in tax free dividends from a private corporation before paying tax if this is there only source of income.  Not only is there no personal tax on the dividends, but also no EI or CPP.  This means at around $30,000 you typically only pay the corporate taxes at a lower rate, even if you (the shareholder) has pulled out all of the $30,000 made in profit.  There is one more factor to consider: Accounting Costs!  Accounting Costs for a corporation are much more than individual costs as there both Federal and Provincial Tax returns that must be done for a corporation and they are much more complex than personal tax returns.   Not to mention full accounting must be done for corporations, including assets and liabilities, and financial statements are prepared, along with schedules and minutes for the corporation’s minute book.  Although you are saving tax at $30,000 net, if you include the accounting fees against the savings you are looking at incorporating around $35,000 net to save taxes (including accounting fees).  This way you will be saving more than you pay the accountant! At Kustom Design our goal is to always save you more than you pay!

Please check back for the next installment of the “When to incorporate” blog series.

Why Incorporate?

There are many reasons to incorporate, which really break down into 3 areas.  The 1^st area is tax savings.  Corporations can save taxes in many ways and we will go deeper into the area of tax savings throughout this series of blogs.  Corporations can pay as little as 14% total federal and provincial tax on active income up to $500,000 in Alberta.  All provinces and territories across Canada have attractive tax savings at different levels using corporations.  You can also avoid payroll remittances and extra costs such as EI and CPP with the utilization of dividends.  Shareholder loans are a very powerful tool of a corporation and are tax free.  You can sell assets to the Corporation at Fair Market Value and receive the amount now or in the future from the corporation tax free.  As you will see throughout this series there are many ways to save and defer taxes through a corporation.  In the next series we will discuss when to incorporate and part of this will include the timing of incorporation for tax purposes, which in Alberta is about$30,000 - $35,000 net income if this is your only source of income.  If you have other sources of income or if you corporation will grow quickly, then you may want to incorporate right from the start.  We will discuss this in my next blog.

The 2^nd area of reasons to incorporate has to do with liability protection.  When you incorporate you set yourself up for limited liability. Unlike partnerships where partners are usually personally liable for the business acts of their partners, corporate shareholders are typically not personally liable for the acts of the directors, officers or other shareholders of the corporation.  The director takes the liability and that is typically only liability for anything that is personally guaranteed by the director, government agency debts or debts that arise from environmental damage.  For further liability protection your corporation can be owned by trusts and holding companies.  For more on trusts see my blog series on the family trust.

The 3^rd area of reasons to incorporate has to do the fact that incorporation makes your business more attractive.  Many businesses seek to do business with corporations over sole proprietorships.  If you need capital from investors or the bank you will have much more of a chance of receiving it as a corporation.  Also some corporations will not hire sole proprietors for the job as CRA could deem sole proprietors as employees in some situations, which creates a huge CRA payroll debt!  Overall corporations are more attractive to do business with.

In my next blogs we will get into the timing of setting up a corporation and structuring your corporation.

Understanding the Basics of a Corporation

From the last 2 blogs we should now have an understanding of what a corporation is.  We will now go further into understanding the basics of a corporation.  A corporation is made up of 3 main people or groups of people:

1. Shareholder(s )– These are the owners of the Corporation.  Shareholders get to receive the benefits of owning the corporation, without taking liability.  There are various classes of shares that can be owned and we will go into these a little further in this blog, and deeper in a later blog in this series.
2. Director(s) – This is the person or group of people that have the ultimate control over what the corporation does and all the major decisions.  As also mentioned prior, the director(s) is/are the one that take the limited liability (see the last blog for examples of the limited liability)
3. Officer(s) – The officers of the corporation come with titles such as: President, Vice President, Secretary and Treasurer.  These are the people or the person that runs the day to day operations of the corporation. (in simplified terms)

As mentioned prior, to own a Corporation you must own shares.  There are different classes of shares in a corporation, such as voting, non voting and preferred shares.  Voting shares means that you have a voting right as a shareholder in things such as naming and firing directors.  Non voting shares means that you cannot vote.  Preferred shares means that you don’t have voting rights, but you may have preferential treatment when it comes to getting paid before common shareholders.  Typically preferred shares are for investors.  If something was to happen to the Corporation and it was going to go bankrupt, the preferred shareholders will typically get paid out before the common shareholders.  We will go further into depth on structuring the corporation in a later blog. 

The last point I’d like to cover in this blog is the fact that all corporations should have a minute book.  A minute book has the full record of the corporation’s existence and activity, proof of ownership and a lot more.  Many people try to save money by incorporating and not getting a minute book.  You are not doing yourself a favor as you will pay more in the long run to get the minute book done separately.  With no minute book, you have no record of your corporation’s decisions and no proof of ownership which will can come back to bite you later.  So make sure that if you incorporate you get a minute book.  We do incorporations at Kustom Design so don’t hesitate to ask us questions if you are thinking of incorporation or have an existing corporation.