As your business continues to grow, it might make sense to start incorporating your sole proprietorship. There are a few key things you will need to consider when making this transition. The following are the most important items.
Mistakes when self-incorporating:
Most often, many business owners choose to incorporate on their own in order to save money. This is understandable, however, it may cost you more in the long-run if you make mistakes. One of the most common mistakes I tend to see during year end is that no shares have actually been issued to any shareholder, resulting in the inability to pay dividends. Other hosts of issues may impact your year-end accounting, and drive up your accounting and legal costs. Your accountant should be able to refer or recommend a business lawyer to help you in the process of incorporation, so don’t be afraid to ask him/her.
Who will become Shareholders?
You need to decide if there will be other shareholders. I get asked frequently whether it makes sense to add family members as shareholders. The short answer is yes and the reason is largely due to the tax deferral/savings that can be achieved. Some of these include the ability to split income with family by paying dividends to those in the lower tax bracket, or being able to multiply the lifetime capital gains exemption when a business is sold to a third party. However, there are many tax rules that should not be ignored, and everyone may have a unique set of circumstances and facts that will differ from the next person. It is highly recommended you seek professional tax advice to prevent any adverse effects from occurring.
Cancelling existing Business Numbers:
Once you become incorporated, it will be imperative to file a RC145 with the CRA to close down your current business number, GST/HST & payroll number. When you become incorporated, a new business number will be generated for your corporation. Therefore you need to close the sole proprietor business numbers, otherwise the CRA will continue to send you demand letters to file any outstanding returns etc.
Transferring Assets to your Corporation:
Some of the common assets you may transfer over include automobiles, land & building, furniture, equipment, etc. Other assets may include intangible assets such as goodwill. Goodwill typically reflects the value of intangible assets such as a strong brand name, good customer relations, good employee relations and any patents or proprietary technology. It should be noted, this is an area where mistakes can occur, such as transferring assets over for $1 dollar or gifting for no consideration. Fair market value needs to be considered in every transaction, and that may result in you having to pay taxes in order to effect a transfer. One of the ways you can defer the payment of taxes on the transfer is to file a section 85 election, a provision allowed in the Income Tax Act. You should seek professional tax advice with your accountant to ensure it is filed correctly.
There are many other things to consider that have not been addressed in this article. Making the transition from a sole proprietor to corporation should be carefully planned to ensure there are no adverse consequences. At Dome Duong Chartered Accountant, we can advise and get you steered in the right direction.
This blog posted on Dome Duong Chartered Accountant provides information of a general nature and should not be considered specific advice, as each reader’s personal financial situation is unique and fact specific. There are many pitfalls to the strategies discussed above and professional tax advice with your Kelowna accountant is essential.