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Which business form is right for you? Find out more about Corporations

03 October 2016

Corporations

Overview

A corporation is a form of organization that can be used for a wide range of businesses. In Canada, it is the dominant form of business association for both large and small businesses. Since a corporation is recognized as a separate, distinct legal entity from its owners, the shareholders, the liabilities of the corporation are its own and generally not those of its shareholders. This also means that the...

corporation can sue and be sued in its own name, enter into contracts, including contracts with its own shareholders, and hold property in its own name. A corporation has the potential to carry on business indefinitely unless it is dissolved. The ownership interests in a corporation (shares) are also easily transferred and this may be done without affecting the corporation’s existence.

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Formation

A corporation is created by fulfilling the formal requirements of a federal or provincial statute.

In British Columbia, a corporation may be incorporated under the British Columbia Business Corporations Act (BCBCA) or the federal Canada Business Corporations Act (CBCA).

Under the BCBCA, registration of incorporation must be done online and the name of the corporation must first be registered using the same Name Approval Request Form as required for a sole proprietorship or partnership.

formationThe basic fee for incorporation under the BCBCA is $350 and the name approval request is an additional $30. If the name of the corporation is to be its “Incorporation number,” for example 123456 B.C. Ltd., a name approval is not required and the number will be assigned at the time of incorporation. Additional fees may also be required for lawyers and accountants hired by the incorporator(s) to assist in the incorporation.

Reasons for incorporating under the BCBCA including its familiarity in B.C., and the ease of dealing with the registrar. The vast majority of corporations in B.C. are incorporated under the BCBCA.

Under the CBCA, incorporation is done by filing articles of incorporation, a notice of the registered office, and a notice of directors, paying the prescribed fee of $200 through online registration, and if the corporation has a name other than a numbered name, filing a NUANS Name Status Report to determine the availability of the corporate name. A name request that is searched in B.C. is $30 per name searched. 

Reasons for incorporating under the CBCA include name protection (a provincial registrar cannot refuse the extra-provincial registration of a CBCA corporation even if a corporation with a similar name is already registered in that province), no restriction on maintaining an action, and familiarity across the country.

funding

Funding

Corporations may raise capital through debt and equity financing.

Debt financing can come in the form of trade credit, bank loans, or debentures. Although corporations afford its shareholders limited liability, lenders may require a personal guarantee, which would make shareholders personally liable for the corporation’s liabilities.

Equity financing takes place through the issuance of shares, or a bundle of rights that give the investor an equity stake in the company. There is no limit on the number of classes a corporation can issue, but each must have at least one of three rights: a voting right, a right to dividends, and proceeds on dissolution. Furthermore, all three of these rights must be allocated amongst the shares a corporation offers.

Advantages

Limited Liability: The members who form the corporation and who become its shareholders are only required to contribute toward the debts of the corporation the amount that they have agreed to pay for their shares in the corporation.

Perpetual Existence: A corporation is said to have potential immortality, whereas a partnership is automatically dissolved in a number of situations (e.g. if a partnership consists of only 2 partners and one of them dies, the partnership is dissolved). A corporation continues to exist even if all its shareholders change.

Transferability of Shares: A shareholder’s interest in a corporation (shares) may easily be made transferable. In contrast, it can be difficult and cumbersome to transfer partnership or sole proprietorship interests.

Separate Legal Entity: Corporations have the ability to do anything a natural person of full legal capacity can do.

Raising Capital: The corporate form may also make raising capital for the business easier. The terms of corporate securities, including shares and debt, can be tailored to meet the needs of investors.

Tax advantagestax advantage

  • If a business is incorporated, earnings can be retained in the corporation for growth, and shareholders will be able to defer tax to the extent the earnings are not distributed to them as a salary or dividend.
  • Generally, not subject to significant double taxation – double taxation occurs when the government taxes income in the corporation and again when corporation pays the earnings out of the corporation as either a salary or as dividends. With our tax system, income that is distributed to an individual through a corporation as a salary or dividend should be taxed at about the same rate as if the individual had earned the income directly.
  • A corporation enjoys a lower tax rate on income up to a certain amount. A Canadian controlled private corporation, or CCPC, pays a much lower rate of tax on the first $500,000 of active business income than would be paid by an unincorporated business.
  • Active business income generally does not include investment income or rental income. However, this tax advantage is mainly a deferral of taxes until the profits are paid out to the shareholder. Thus, this benefit is typically only realized where the income is not withdrawn from the corporation but is kept in the corporation and is used to make capital and operating expenditures and to repay debt. If all the profits are paid out to the shareholder as they are earned, leaving the corporation with little or no taxable income, then they will be taxed entirely as income of the shareholders, at personal income tax rates.

It is important to note, however, that a corporation can experience less than optimal tax treatment for business losses, particularly if the business never earns a profit against which losses can be deducted. As the corporation is a separate legal entity, its losses are trapped at the corporate level and cannot be used to offset other income of the shareholders. Accordingly, sometimes incorporating the business is deferred until the sole proprietor or partners are reasonably certain that the business will be profitable.

Furthermore, income taxed at the top corporate rate and later paid out as a dividend could result in more overall tax, especially if the shareholders are in the top tax bracket.

Regardless, there can be significant tax deferral for as long as the amount remains in the corporation.

Rights and remedies of shareholders: shareholders can participate in the management of the corporation to the extent they have become directors or officers as well or exercise control over the election of directors or as the corporation’s articles may otherwise provide.

Disadvantages

Closely regulated: For example, the BCBCA requires all corporations to file an annual report and also file any changes to the location of corporate offices and its directors. The corporation is also required to maintain certain corporate records.

Expensive: A corporation may involve higher start-up costs related to professional fees for legal and accounting services than other business organizations. Note that preparation of a partnership agreement can also involve significant legal costs.disadvantages

Keeping of records: It is necessary for a corporation to keep extensive records. As it is a separate legal entity, it must prepare financial statements and file tax returns independently of the shareholders.

Charter restrictions: The incorporation documents and by-laws must be carefully drafted to ensure that the corporation has the power to conduct the business as intended.

Possible Double Taxation of Profits: as discussed before.

Shareholders (and directors) may be Liable for the Corporations: This may occur under the theory of “piercing the corporate veil.” This is a complicated area of business law and the court will likely only hold shareholders liable for corporate obligations in circumstances involving shareholder or director negligence or fraud or where the requirements for maintaining a corporation are ignored.

Personal Guarantees may be Required: When a corporation borrows money or enters into a lease, the principal shareholders of the corporation are frequently required to give their personal guarantees of the corporation’s obligations. The requirement of personal guarantees undermines the limited liability advantages corporations are known for.

 

The Business Law Clinic

This information has been prepared by students at the UVic Business Law Clinic. The BLC provides free business legal information to a wide range of business owners, entrepreneurs and non-profit organizations that operate within British Columbia. For more information or to book an appointment, please leave a message on the BLC's voicemail at 250-472-4522, send an email to This email address is being protected from spambots. You need JavaScript enabled to view it. or send a fax to 250-721-8146.

Read 1430 times Last modified on Monday, 03 October 2016
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