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The most common reasons that businesses incorporate:

Limited Liability

  • The risk of financial loss is restricted to assets owned by corporation
  • Your personal assets such as your home, cottage, investments, etc., are not exposed to lenders or creditors
  • Lenders will often make shareholders personally guarantee corporate loans (which must still be honoured)

Tax Advantages

  • Possibility of a capital gains exemption when the business is sold or the ownership is transferred
  • Income splitting possibilities through the payment of dividends
  • Increased flexibility with respect to remuneration (salary vs. dividend)
  • The business can be passed on to the next generation by way of an estate freeze
  • Non-calendar year-ends and bonus deferral possibilities

Tax Deferral

  • The corporate tax rate on the first $500,000 of business income is approximately 12.20% as compared to individual tax rates, which can be as high as 53.53% (in 2022)
  • This tax deferral only works if the money is not paid out to the shareholders (the cash remains in the company for business use)
  • Although a second level of tax is paid on a subsequent distribution of income, the ability to defer this second level of tax provides for the on-going benefits of incorporation

Required By Customers

  • E.g. – Consulting

When is the correct time to incorporate?

Determine the potential risk of liability

  • From the beginning of business operations if the risk is high
  • Depends on the shareholder’s attitude towards risk
  • Consider the shareholder’s personal assets which may be exposed

Determine business profit potential

  • It is common for losses to occur in early years of operation
  • Corporate losses can only be applied against corporate income while unincorporated losses can be applied against all other personal incomes
  • One may want to operate as proprietorship (partnership) and incorporate when profitable

Determine if the business is likely to generate more cash than the shareholders require personally

  • Remember that the low corporate tax rate (12.20%) is only of benefit if the cash remains in the company (it is not paid out to shareholders)

Difference between incorporated and non-incorporated entities:

Incorporated Entities

  • The company is treated as a separate entity from the owners (shareholder(s))
  • The owners become employees of the corporation and normally receive salary/dividends
  • The company must file an annual corporate tax return, shareholders file personal tax returns as usual
  • The corporation is taxed at approximately 12.20% on first $500,000 of active business income
  • Corporate tax instalments may be required after the first year-end

Non-incorporated Entities

  • Calendar year-end (December 31)
  • No special government filings, business results are included on your personal tax return
  • Proprietors “draw out” money for personal needs, but are taxed on business results (at individuals marginal rate) regardless of drawings
  • Tax instalments may be required after the first year-end

Pitfalls of Incorporating:

  • With respect to investment and capital gain income, incorporating may result in a prepayment of tax
  • Increased administrative costs, including the cost of incorporating, preparation of corporate tax returns and other filings

For more information, and to connect to the Ministry of Government Services website click here.

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