Of all the choices you make when starting a business, one of the most important is the type of legal structure you select for your company. Not only will this decision have an impact on how much you pay in taxes, it will affect the amount of paperwork your business is required to do, the personal liability you face and your ability to raise money. It's not a decision to be entered into lightly, or one that should be made without sound business counseling.
WHAT ARE THE DIFFERENT KINDS OF BUSINESS STRUCTURES?
The three types of businesses most commonly used are: Sole Proprietorship, Partnership, and Company or Corporation.
WHAT ARE THE CHARACTERISTICS OF EACH TYPE?
Sole Proprietorship is the simplest form of business as it is owned and operated personally by the owner. It is easy to set up and may only require registration of the business name. It can be changed to a company or partnership at a later date.
Partnership is similar to the sole proprietorship except there are two or more owners running the business together and sharing profits. Set up costs can be limited to registration of the partnership but the creation of a Partnership Agreement is recommended to establish the rules the partners will use to operate the business. These rules may include decision-making procedures, allocation of profits and losses, strategies for a partner that may wish to leave the business and methods of dispute resolution. C
AUTION: The courts may find that a partnership exists even if the parties did not intend to create a partnership if two or more individuals are operating a business together with a view towards profits. Partnerships are regulated by the Partnership Act.
Company is a separate legal entity having an existence separate and apart from the business person that created it. A company can be formed under the British Columbia Company Act or the Canada Business Corporations Act although provincial corporations are most common. Its continuance depends only on the filing of annual returns and annual meetings of shareholders and directors. The Company Act allows a company to be owned by just one person. If more than one person is involved in the business, a Unanimous Shareholder’s Agreement is recommended to establish the operational rules between the shareholders including dispute resolution and share evaluation. It is wise to consult with a lawyer to ensure that the company is set up in a manner that meets your business’ present and future needs
HOW DO I DECIDE WHICH ONE IS RIGHT FOR ME?
There are several issues to consider:
- Ease and cost of set up
You should consult with an accountant and a lawyer to help you decide which issues are most important to you when deciding which business structure best meets your needs.
Sole Proprietorship – Any income or losses are claimed on the owner’s personal tax return each year. Business deductions are permitted.
Partnership – A Partnership Agreement can allocate the profits or losses in any ratio agreed to between the partners but if there is no Agreement, the profits must be allocated equally. Business deductions are taken by the partnership before the income is distributed to the partners and claimed on their personal tax returns.
Company – The Company pays taxes on corporate earnings after the business deductions are made. Money taken out of the company in the form of share dividends or wages by the shareholders is claimed on their personal tax returns. Tax advantages include the Small Business Tax rate on the first $200,000 of income for qualifying companies.
Sole Proprietorship – Owners are personally liable for the debts of the business. This also means that should their business fail, the owner’s personal assets could be at risk.Partnership – Partners are personally liable for debts of the partnership and the full amount of these debts can be collected from one or more of the partners rather than the debt being equally shared. Partners can also be held liable for acts committed by one of their partners in the normal course of business.
Company – Liability is limited to the assets of the company and the shareholders are not personally liable for the debts of the company unless allowed by law. The directors of a company may be held personally liable under certain circumstances, such as unpaid contributions under the Income Tax Act. Most banks and many other large creditors will require the owner of a small company to provide a personal guarantee to secure a loan. These factors reduce the effectiveness of limited liability for small business ownersDURATION
Sole Proprietorship – The business ends with the death or incapacity of owner. Therefore, this type of business cannot be inherited. However, the individual assets can be used to carry on a business.
Partnership – This business organization ends with death, incapacity, withdrawal or bankruptcy of any partner, unless otherwise agreed to in a Partnership Agreement.
Corporation – A company is its own legal person, therefore it survives the death, incapacity or withdrawal of any shareholder or director. Its survival depends on the filing of annual returns and fulfillment of the requirements of the Company Act.
HOW DO I REGISTER MY BUSINESS?
Sole proprietorship and Partnership – Can operate under the name of the owner(s) or under a trade name. If the business name is different than that of its owner or indicates the involvement of more than one person (i.e. & Company) the name must be registered.
Corporation – A corporation must be registered with the Registrar of Companies. Any name you choose should be unique and distinctive. You do not want a name that is similar to or could be confused with an existing name. It also should be descriptive of your business. You must also add a legal designation such as "Ltd." or "Inc." to advise the public that you are operating as a limited liability company. If you do not choose a name, the Registrar of Companies will assign a number to your company
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