Ever wanted to start your own business? To incorporate or to self-employ is one of the first questions you will likely ask yourself. Choosing the structure of the business can have an impact on operations, such as client relationships and taxes.
Starting a business is exciting from ideation to execution, but the legal and accounting aspects can require knowledge to help minimize costs and follow the correct taxation processes. Often, entrepreneurs say that they will think about incorporating later on, however might not understand the numerous benefits of incorporating or how they can maximize their potential as a sole proprietorship. Through this guide, you’ll be able to identify what better works with your business and be able to focus on your consumers needs.
Table of Contents
What is a self-employed (sole proprietorship) business?
A sole proprietorship is owned by one person who makes decisions, receives all the profits and losses, and does not have separate legal status from the business. Sole proprietorship business income is entirely attributed to the business owner and it will be included in their personal income tax return. The business owner can register a business trade name for a small fee or operate under their own legal name for free.
What is an incorporated business?
Incorporating a business creates a legal entity called a corporation or company. An incorporated business has all the powers of a person and is independent from its shareholders, also known as the business owners. Corporations can acquire assets, go into debt, enter into contracts, sue or be sued because they have a separate legal status from the owners.
Self-employed advantages & disadvantages
Advantages of being self-employed (sole proprietorship)
Alongside the evident benefit of control, it is rather inexpensive and accessible to register (as well as dissolve) a sole proprietorship. It’s also easy to change the legal structure later on if the needs of your business change.
Additionally, there are fewer business fees, less paperwork (i.e. no need to set up a business bank account, although highly recommended) and easier tax setup.
Disadvantages of being self-employed (sole proprietorship)
One of the main disadvantages of being self-employed is what’s called personal liability. This means that you are personally liable in a situation where your business is being sued or where creditors are asking for their money back. Additionally, other risks may include no name protection, higher taxation, limited access to credit and may prevent the scaling of your business.
Less paperwork and less expensive
Unlimited liability for owner
Simple tax return (one single income tax by owner)
Income being subjected to personal tax return (often higher tax rate)
Can start running a business instantly under own legal name
Limited access to business loans and credits
Easy to change the legal structure at any time
No protection of personal assets
Possibility to split income among family members (i.e. spouse)
No flexibility on choosing a business year-end date
Self employed losses can decrease other sources of personal income
CPP contributions are doubled
Incorporation advantages & disadvantages
Advantages of Incorporating
Incorporating a business has several potential benefits. First, limited liability protection separates the assets and finances of the company from those of the owners, which can protect the personal assets of the owners from being seized to pay off business debts. It is also easier to raise capital as incorporated businesses can issue stock and sell ownership shares to investors. This is furthered by a more professional image, which can help attract customers and clients.
Next incorporating a business can bring many tax benefits, as private Canadian corporations are eligible for lower tax rates. The typical tax rates for small corporations in Canada ranges between 12%-20%. Incorporating a business also allows it to continue operating even if the owners leave or pass away, as the business is a separate legal entity as transferring ownership is more convenient, as the ownership can be transferred through the sale of stock rather than requiring the transfer of all assets.
Disadvantages of Incorporating
However the benefits of incorporation are not without its disadvantages. Formation and ongoing compliance costs can make incorporating a business more expensive and time-consuming than other business structures, as there are often fees and paperwork involved in forming the corporation and maintaining compliance with state and federal regulations. This also leads to increased administrative responsibilities as there are more administrative responsibilities, such as holding shareholder meetings, keeping records, and preparing financial reports. Closing a corporation also incurs fees and are generally just as much if not more than the initial incorporation costs.
Limited liability for owner (finance of the company is separate from the owner)
Compliance with corporate rules and regulations
Protection of personal assets
Higher annual costs
Easier to raise capital (i.e equity or debt)
Significant liquidation fees
Lower tax rate
Separate tax filing for the corporation
Easier to transfer the ownership
Flexibility in payment of salary and dividend
If you are looking to start a business for free, it’s possible and completely fine. It might be your first time running a business or just trying out an idea. You can simply start right now under your own legal name.
If you’re looking to incorporate a business, our good friends at Goodlawyer can help you get started with a free legal consultation.
Keeping business separate from personal
A business bank account is very similar to a personal bank account. However to ensure a clearer separation of finances, a dedicated business bank account brings more clarity when filing taxes and promotes good accounting practices. It is also necessary when running payroll or applying for business loans. There are several free or low cost business checking accounts and business credit card options for online banking that can help you streamline the operations and payroll process of your company. Whether you are self-employed or running an incorporated business, we highly recommend using a dedicated business bank account.
Using a simple accounting software from the very start will also help automate bookkeeping, send professional invoices and discover insights to better your financial performance. Instead of waiting for year-end to figure things out, you can take advantage of free accounting software to make better financial decisions on a daily basis and avoid the all too common year-end struggle.
How ReInvestWealth’s free accounting software can help incorporated businesses?
Accounting software can be a valuable tool for both incorporated businesses and self-employed individuals, helping them to manage their financial affairs more efficiently. ReInvestWealth’s free accounting software focuses on simplicity, security, and automation.
Some of the ways accounting software can help incorporated or going self-employed businesses in Canada include:
Automate your bookkeeping - by connecting to your bank account for free
Classify recurring transactions - through unlimited automation formulas
Reconcile your invoices automatically - by connecting to Stripe
Optimize sales tax filings - through auto-file and real-time sales tax rates.
Save money - through personalized recommendations
Manage income tax filings - through all-in-one packages to fit your specific needs.
Maximize security - in a digital era, it’s important that your credentials and data are encrypted at all times and ReInvestWealth has server-side encryption and client-side secure authentication.
Avoid legal issues - by eradicating mistakes and complying with regulations.
Access business financials from everywhere - whether you are on-the-go, needing to check in on the mobile or web, you can access your data any time.
Accelerate your success - by reaching out to a ReInvestWealth financial expert.
In summary, accounting software can be a valuable tool for both incorporated businesses and self-employed individuals, providing information and insights to manage finances and make informed decisions.
Deciding whether to incorporate or go self-employed in Canada will depend on your specific business goals and needs. If you are looking for limited liability protection, access to capital, tax benefits, and credibility, incorporating may be the better choice. However, if you prefer simplicity, flexibility, and lower costs, going self-employed may be the way to go.
Written by Joyce Li
Edited by Behdad Karimi Dermeni, CPA