Starting a business can be an exciting experience. To succeed, many entrepreneurs will need to draw a balance between risk and reward.
Many businesses start out as either proprietorships or as partnerships. Typically, these are simpler and do not require separate corporate books and tax filings. The people who start the business will be taxed personally on income from the business, and will be personally responsible for all losses. In the case of a partnership, the partners may have to file tax information and may want a partnership agreement.
As a business grows, many entrepreneurs may incorporate to form a company. A company is a separate legal entity which pays its own taxes, has shareholders who elect directors, files annual reports, and has its own liability. Incorporating takes some planning. You need to pick a distinct name, set up a share structure and issue shares and choose corporate articles. If there is more than one shareholders (other than spouses), you may wish to draft a shareholder’s agreement to outline how the owners plan to run the business, such as profit sharing or exit strategies.
There are usually three main reasons why businesses consider incorporating. The first is that incorporating may limit personal liability (there are limits and you are responsible for your own negligence). This is important if you have employees and want to protect your personal assets from a lawsuit over an employee’s negligence. Incorporating also provides protection from creditors, although lenders and suppliers may request personal guarantees.
The second reason is that small businesses can access a lower tax rate if income is being retained and reinvested in a company. Similarly, spouses may split dividend income and potentially lower their marginal tax rate. Your accountant can help calculate this.
The third reason for incorporating is if your goal is to grow or sell the business. A company can issue shares to investors (there are rules to whom) and many business owners can take advantage of capital gains exemptions to sell their business tax free or transfer shares to family members or key employees.
At Integra Law, we can walk your through the process of starting up a new company, prepare your incorporation forms, shareholder agreements, and issue shares.