With the varying forms a business entity can take – incorporating has significant benefits under tax legislation. It is imperative to consider that a corporation is a legal entity recognized as its own person under the law. This provides some protection to shareholders as they are limited in liability to the amount invested in the company, as opposed to a sole proprietor that has unlimited liability which puts at risk the sole proprietor’s personal assets and amalgamates business income with other income earned by the individual.
With the separate legal person status of a corporation, potentials for tax deferrals, income splitting, lower tax rates and other benefits are plentiful. The key is to differentiate between the Corporation and the individual shareholder.
With two tax rates within a corporation, one at the small business rate and the other at the general corporate tax rate both being less than most personal tax rates – income can be left within a company to grow and remain at the lower tax rates until such time as you, the shareholder decides to take those funds out. This deferral of tax allows for the accumulation of wealth (within the Corporation) at a higher rate due to the preferential tax treatment. Varying tax rules provide additional deferrals of tax within the corporate entity, along with the ability to deduct expenditures related to earning income more copiously. The legal entity status of the corporation also allows this entity to live on even after the death of its shareholders with planning opportunities around such circumstances.
Another advantage of incorporating is the ability to income split. With the escalating tax rates for individuals – a spouse with an incremental tax rate in the highest tax bracket (48% in Alberta) would pay substantially more than a spouse in the lowest tax bracket (25% in Alberta) for that same income. Income splitting is the ability to push that additional income towards the spouse in the lower tax bracket and saving the family unit on the overall tax burden. As simple as that sounds – there are a number of rules to consider, and planning required to achieve these savings (see discussion on TOSI). However, done right – these savings can be significant.
In addition to lower corporate tax rates – tax rates for investment income, dividends for small business as well as dividends for the general rate, salaries and wages as well as payroll deduction rates are periodically changing. These rate fluctuations often provide tax savings opportunities that can best be planned around corporate structures.
The $913,630 (in 2022) lifetime capital gains exemption available for the sale of a qualified small business corporation is also a significant tax advantage available to shareholder of such corporations upon the sale of their business. This retirement win fall is an essential planning tool to consider in the eventual sale of the business.
While the benefits of incorporation seem plentiful – you should discuss this with your accountant before taking the plunge, as there are also many other considerations that may dissuade you.
This information is for discussion purposes only and should not be considered professional advice. There is no guarantee or warrant of information on this site and it should be noted that rules and laws change regularly. You should consult a professional before considering implementing or taking any action based on information on this site. Call our team for a consultation before taking any action. ©2022 Shajani LLP.
Shajani LLP is a CPA Calgary, Edmonton and Red Deer firm and provides Accountant, Bookkeeping, Tax Advice and Tax Planning service.