STARTING A BUSINESS & CHOOSING YOUR BUSINESS STRUCTURE – SOLE PROPRIETORSHIP, PARTNERSHIP OR CORPORATION?
October 12, 2016
To incorporate, or not to incorporate?
This is an important decision for entrepreneurs.
Every entrepreneur needs to choose a structure through which they will conduct business, whether that means through a sole proprietorship, a partnership or a corporation.
Don’t panic. There is no wrong choice.
With that said, some options may suit you or your business much better than others.
Under this business model, you personally are the entity that is doing business.
Speed and Simplicity. This is the biggest selling feature for being a sole proprietor.
You can start your business immediately.
You don’t need permission to start a business as a sole proprietor. If you have an idea and want to start a business, you can wake up one morning and go.
You are the one making the decisions and you don’t need to concern yourself with director and shareholder resolutions or whether an act or decision is permitted or authorized under The Business Corporations Act.
When your business makes money, that money goes straight to you. It doesn’t need to go through your corporation, taxed, and then get paid to you as a salary, dividend or commission.
Costs. It is cheaper to start a business as a sole proprietor. You save on Corporate Registry, legal and accounting fees.
Tax. It is simple to claim expenses and business losses against your personal income. So in the early stages of a new business it can be a strong advantage to operate as a sole proprietor.
Personal Liability. As a sole proprietor you are personally responsible for all costs and liabilities of the business. You won’t be personally protected from business disputes, which means that your personal assets are exposed to creditors or others bringing a legal action against you in relation to your business.
Raising Capital | Borrowing Money. It can be more difficult to raise funds for your business as your grow if you are not incorporated.
Prestige of a Corporation. Some people prefer to do business with a corporation and others would tend to consider an incorporated business as being slightly more professional than an unincorporated business. There is no real logic to this – it’s a personal preference. But if it is more expensive and cumbersome to start and operate a corporation, it can be taken (mistakenly, at times) to be a mark of success.
In a traditional partnership, the partners collectively do business under the name of the partnership and each partner is equally responsible for all debts and liabilities in the business (unless all of the partners agree otherwise).
Simplicity. At its most basic level, a partnership can be a verbal agreement between parties that involves them cooperating to do business together and to share costs and profits.
Sharing of Costs. A partnership allows two or more entrepreneurs to share costs and therefore the risk of the business.
Tax. Partners are able to use losses from their partnership on each of their individual tax returns, which can be a tax advantage depending on the individual’s circumstances.
Personal liability. Each partner is individually liable for the costs, debts, expenses and other liabilities of the partnership. So this is not the ideal venture for the litigation adverse entrepreneur (unless your corporation is the member of the partnership – more on this later). Not only are partners responsible for their decisions, however, they are responsible for the decisions of the partnership; this means that one partner can make a bad decision and the other partners will still be responsible for that bad decision.
Sharing Management Duties. Sharing the decision-making power and responsibilities require a cooperative relationship between the partners. Not all entrepreneurs are accustomed to taking a step back, delegating or sharing the ultimate decision-making authority with others.
Finding a Partner. Simply put, to make a partnership work the partners need to be able to get along in a day-to-day business context. Two or more individuals may be brilliant entrepreneurs with similar views on business, but they may not be able to work together, cooperate and share the management responsibilities of the partnership.
Costs. A partnership can be simply formed – or it can be a complex relationship that is governed by a long, detailed and complex partnership agreement. Negotiating, drafting and revising a detailed partnership agreement can be significantly more expensive than incorporating a corporation.
OTHER NOTES ON PARTNERSHIPS
Partnerships in Saskatchewan are governed by the Partnerships Act (Saskatchewan), which sets many of the terms and important details of each partnership. The Partnerships Act, however, allows partnerships to vary the terms of the Act by the consent of all of the partners. This consent may be implied by a course of dealing, but most partnerships opt to do so by a written partnership agreement. Like many commercial agreements, partnership agreements can be as simple or as complex as the partners choose.
The pro’s and con’s listed above are based on a traditional partnership, but there are also limited partnerships and limited liability partnerships to consider.
Limited partnerships have two classes of partners – general partners and limited partners. There must be one of each and they cannot be the same person. General partners are the partners that manage the business of the partnership and limited partners typically provide investment capital into the business and then receive income from the partnership. Limited partners’ individual liability is typically limited to the amount they paid for their units in the limited partnership, and unless they take an active role in managing the limited partnership, they are not liable to creditors.
Limited liability partnerships are limited for use by “eligible professions” – which means professions that are governed by a provincial statute. Think accountants or lawyers. These partnerships limit the liability of a partner to an “obligation for which they would be liable if the partnership were a corporation of which they were the directors.”
Lastly, partnerships are not limited to people. Corporations can be partners in partnerships – whether it’s a traditional partnership, limited partnership or limited liability partnership. So depending on your business goals and financial plan, you may want to consider having a corporation be a partner in your partnership.
Corporations offer entrepreneurs the ability remove themselves individually from the business. Corporations are able to contact and do business themselves as independent entities and are – in most situations – solely responsible for all debts and liabilities in the business.
Separate legal entity. A corporation is a separate legal entity with the same ability to conduct business in the same was as an individual.
Limited liability. Shareholders of a corporation are, for the most part, only risking their investments. Shareholders should not be – subject to some exceptions - responsible for the costs, debts, expenses and liabilities of the corporation. (That said, directors and officers of corporations can have liabilities and costs imposed on them personally under certain circumstances.)
Raising capital | borrowing money. Generally, it is easier for corporations to raise money, and borrow at lower rates, than other business structures.
Lower taxes. The corporate tax rate is lower than the individual tax rate, which gives corporations advantages when it comes to financial planning.
Prestige of corporations. As noted previously, some people prefer to do business with a corporation and others would tend to consider an incorporated business as being slightly more professional than an unincorporated business.
Continuous Legal Existence. Corporations do not cease or exist and are not wound up on the death of a shareholder, director or officer – even when there was only one shareholder, director or officer of the corporation. A corporation continues to exist as an independent legal entity indefinitely. This is especially beneficial for succession planning or otherwise transferring the ownership of a corporation.
Costs. To properly incorporate a corporation there will be slightly higher costs (in Corporate Registry, legal and accounting fees) than in a basic sole proprietorship or a basic partnership.
Regulations & Record Keeping. Corporations in Saskatchewan are regulated by either The Business Corporations Act (Saskatchewan) or the Canada Business Corporations Act (Canada). Both of these statutes set out numerous requirements and obligations on corporations, as well as their directors and officers.
IN THE END
Entrepreneurs have choices - each business structure has certain strengths and weaknesses.
Ultimately, the best choice will depend on a range of factors, including an entrepreneur’s management style, risk tolerance, ability to work with others and the financing of their business, amongst other factors.
In considering these choices, remember that a business structures can be changed. Sole proprietors can enter into partnerships or incorporate corporations; partnerships can be dissolved – leaving the former partners free to start sole proprietorships or incorporate corporations; and corporations can be dissolved – leaving the former shareholders free to start sole proprietorships or enter into partnerships.
As a final helpful reminder - you should speak with your lawyer before, during and after you start your business. A lawyer will cost you some money up front as you start your business, but your lawyer can save you significant money over the long term by helping you avoid mistakes and pitfalls.
And if you are concerned about the costs or process of retaining a lawyer, then you should likely continue to shop around for a new lawyer. Law is a service and lawyers should be held to a high standard when it comes to customer | client service.