Starting a new business is exciting and you are passionate about it! You are probably wondering about the best structure for your business and maybe feeling a bit overwhelmed and spread too thin as you try to do everything yourself.
As a tax lawyer and business owner, I can tell you that if you take the time to plan and set up your business properly from the outset, you will make more money, save taxes, and have more time to grow the business you are passionate about.
There are numerous “tips and traps” to help guide you along the way, but here are a few things entrepreneurs should consider as key elements for success:
- Take the time to pull together a well thought out and researched business plan and a marketing plan. It will help direct you where you’re going and how you’re going to get there. Know your market niche and your competition. Forecast sales and cash flow to ensure that you, the business owner, get paid. People can’t work for free for very long. A business plan will help you set benchmarks and keep you on target.
- Thinking about incorporating? There are business, legal and tax reasons to be considered in making this decision. From a business perspective, there can be industry standards as well as marketing and branding benefits to incorporation. A sole proprietorship or partnership may be perceived as a “small business” whereas a corporation can be viewed as more established and prestigious. It also provides a greater ability to raise capital by attracting investors. In some cases you need to incorporate your business to be eligible for certain government incentive programs.
Running a business involves risks – risk that the business may be a huge success or a big flop. Unless you run your business through a corporation, everything you own is on the line. A corporation is a separate legal entity with its own assets and liabilities. It is the best way to protect your family’s wealth if your business involves potential liabilities where insurance may not cover all possible claims. Only the assets of the corporation are generally available for seizure by creditors (unless you sign personal guarantees). Sometimes a multi-tiered corporate structure is needed for maximum asset protection. Seek professional advice on the best legal structure for your business.
From a tax perspective, there are pros and cons to incorporation. If you expect losses in the first couple of years, it is better to incur them in a sole proprietorship or partnership because these losses can be applied against other personal income. Losses incurred in a corporation are trapped there and can only be applied against future profits of the company. If however you expect high profits, a corporation can really help minimize taxes and allow for income-splitting with family members who help in the business. Canada’s current corporate tax rates are lower than most of the American states! In Ontario, a company can pay as little as 15% on the first $500,000 of net profit. Compared to our 46% personal tax rate (at the top income bracket), you can achieve great savings by paying tax in the company and reinvesting in the business.
Other important considerations include:
- Does GST/HST apply to your business and how does it work?
- Do you need Workers’ Compensation Insurance?
- Are you properly set up for payroll taxes and GST/HST remittances? Did you know that directors/business owners are personally held liable for these?
- Shareholders Agreement! Make sure you have one if you have partners in the business (even if your partner is your spouse or children). It is the single most important document to govern the operation of the business and protect the interests of the business owners under circumstances such as divorce, bankruptcy, mental or physical incapacity or death of one of the partners. If you do not want to be in business with your partner’s spouse, a Shareholders Agreement is a must! Did you know that it even trumps a Will?
- Get professional help! You can’t be an expert on everything. Too many small business owners get bogged down in accounting and bookkeeping; or trying to create their own legal agreements; while their business suffers because they are not focused on sales and management. Remember: there are only 24 hours in a day and your valuable time is probably better spent on growing and running the business.
It is much more difficult and costly to clean up a mess and do retroactive planning. So be pro-active and get the business, legal and tax issues right from the outset!