Our Tax Lawyers in Ottawa Explain the Various Benefits of Incorporating in Canada
When you decide to incorporate your business, in the simplest of terms, you engage in the legal process of declaring a corporate entity as separate from the owners. There are many benefits of incorporation, including the fact that the assets of the owners are protected from the corporation’s liabilities and the relative simplicity in which ownership can be transferred to another party. But let’s get more specific—how can you take advantage of tax benefits after incorporating your business?
One of the main ways to save money with incorporation is to redistribute the income within your household. Income splitting with your spouse or an adult child can end up saving you thousands of dollars every year. If you hire your spouse, common-law partner, or children, the corporation can deduct the salary you pay them as an expense. Whatever amount you pay them will be taxed at rates that are significantly lower than your own.
If for some reason you are unable to hire your family members and pay them a reasonable salary, there is also the option of making them shareholders and paying dividends, which are taxed at a reduced rate.
It is imperative to understand that each situation is different. As far as Canadian tax law allows, certain benefits will be available to some individuals while others will not. For example, there are special considerations when it comes to making a low-interest loan to your corporation where your spouse is or will become a shareholder.
Given the sometimes complex nature of income splitting, the tax lawyers at our Ottawa firm can help you explore all the options that are available to you.
Small Business Deduction
If your corporation is controlled by professional Canadian residents and isn’t directly or indirectly controlled by a public corporation, then it can be classified as a Canadian-controlled Private Corporation (CCPC). In the case that your corporation is a CCPC, you are eligible to gain access to the small business deduction. With this tax benefit, provincial and federal taxes are reduced on active business income generated by the corporation. For 2009 and subsequent years, the federal limit was set to $500,000. Each province has its own maximum.
As our tax lawyer in Ottawa will tell you, the lower corporate tax rate leaves greater after-tax dollars in the corporation to pay for expenses and reinvest in assets. There are also special considerations with regards to partnerships and personal service businesses.
Lifetime Capital Gains Exemption for Qualifying Small Business Shares
You may be able to take advantage of the Lifetime Capital Gains Exemption (LCGE) for qualifying small business corporation shares. There is an $800,000 LCGE (raised from $750,000 in 2013), which translates into a $400,000 LCGE deduction. This benefit also happens to be available to qualified farm and fishing properties.
According to Canadian tax law, in order for your small business corporation shares to qualify for the exemption, the following general conditions must be met:
• At the time of the disposition (or sale), at least 90% of the fair market value of the corporation’s assets must be business assets;
• More than 50% of the fair market value of the corporation’s assets must have been used in an active business carried on primarily in Canada, or by a related corporation, throughout the two-year period immediately before the sale;
• The shares must not have been owned by anyone other than the vendor or someone related to the vendor during the two-year period immediately before the sale.
It may also be possible to trigger a capital gain, claim the exemption, and increase the tax cost of your shares in the case that there will be a future sale. By consulting one of our highly skilled tax lawyers, we can help you understand what gains your corporation would qualify for.
These are just some major tax advantages that are available to businesses, but there are others that you should consider, such as an Individual Pension Plan and Employment Benefits. There are also some minor disadvantages to keep in mind as well, including Payroll Taxes and Additional Compliance.
Making the decision to incorporate takes time and careful consideration about the implications of becoming a corporation. While this article can serve as a good starting point, it is important to seek professional legal counsel that specializes in Canadian tax law. Our tax lawyers in Ottawa can help you decide what makes sense for you and your business.
This article is for informational purposes only and does not constitute legal advice. If you wish to seek legal advice, contact our office today. 613-706-1757, [email protected]