When starting your own new business, it often makes sense to choose a simpler structure, which is a sole proprietorship. This allows you to test the viability of your business idea and see if the lifestyle and associated stress that comes with running a business matches your personality and aligns with your long-term goals. Alternatively, you may want to keep things simple and not add any unnecessary complexity. Registering and maintaining a sole proprietorship is relatively simple; many business owners don’t worry much about finances until after tax (when the mad rush comes). However, once you have a company, the level of complexity and effort increases.
Why go from a sole proprietor to a company?
There are several reasons why you might decide to convert your sole proprietorship into a company:
Your business is experiencing growth that requires a more formal corporate structure and separate legal entity to accommodate the additional complexities of growth.
You may need a loan that a bank/financial institution requires you to set up. Alternatively, a customer or client may do business with only one company.
If your business is doing well, you may want to keep money in the company or have some flexibility in how you pay yourself, such as salary versus dividends, to better optimize your taxes through tax deferral options. Talk to a renowned accounting firm or a tax consultant near me for more clarity.
Adding a partner
You may decide that you want to add a partner to your firm for whom you need to create a new business structure.
Employment separate from staff
A sole proprietorship is an extension of an individual, while a corporation is a separate entity. You may decide that as your business grows, you would like to separate your business from your personal business.
Take advantage of loans, incentives, tax credits
It is usually easier for companies to get certain types of grants, loans, incentives and tax breaks.
One of the main advantages of a corporation is limited liability, which means that you are only liable for debts or liabilities up to the amount of the company’s assets. With a sole proprietorship, everything you own is available to someone to sue you.
You may want to set up a company to survive you and also take advantage of the lifetime capital gains exemption if you decide to sell it.
Steps to be taken in case of transition from a sole company to a company:
Register your new company
The first step, once you decide to start a company, is to register your new company. There are a number of incorporation services that can help you, or you can do it yourself with guidance from industry Canada and the province where your business is located. An important aspect of incorporation is deciding whether you want to do it at the federal or provincial level. The advantage of incorporating at the federal level is that it allows more flexibility if you want to expand into other provinces or even internationally. It also gives you some name protection. Provincial registration is slightly cheaper and suitable if you are not looking to build a brand or expand.
Register for new tax codes and valid numbers
when you set up a new company for your business, you need to register for new sales tax (gst/hst) numbers and also register for payroll accounts depending on whether you charge sales tax and whether you have employees or not.
Drop your sole proprietorship and tax number
Decide whether you want to liquidate your existing sole proprietorship or keep it in business as a dormant business for a period of time. However, you should clean up your sales tax and payroll numbers to avoid filing a $0 return and potential penalties if not filed on time.
Close your individual bank account and open a new company bank account
Cancel your sole proprietorship business bank account and create a new company bank account. You can still use a business credit card, although it’s best to get a business credit card if possible.
Consider section 85 rollover
When transferring your existing unincorporated business to a corporation, you should consider whether you need to make a section 85 rollover, which is one way to transfer assets from a SP to a corporation. This is especially important if you have built a brand or customer list and your current business has intangible value beyond assets such as inventory and equipment. The purpose of a section 85 rollover is to determine the value of the assets of the existing business, including intangible assets, and transfer them at their original cost so that you do not have to pay capital gains tax. Many small business owners don’t do this, which can be problematic if revenue Canada determines that your business has value and assesses your taxes accordingly. This article explains section 85 rollover in more detail.
Changes to contract, billing, etc. for the new company
If you have client/customer agreements that you will be moving to a new company, ensure that they are updated to reflect the new entity and any other related changes.
Transitioning your accounting
Since the company is a separate legal entity, it is advisable to create a new accounting file. Some business owners continue to use the same accounting file, which can be confusing, especially for tax purposes, since filing income for an individual is different from a corporation. Company reporting begins with the date of incorporation, but you may have overlapping sole proprietorship transactions as you transition. Talk to a renowned accounting firm or a tax consultant near me for more clarity.
Ideally, you should shut down the existing accounting software for your company. Before closing your account, make sure you export all relevant reports and data from the start of your business, including:
- Financial statements for the fiscal year
- Loss of profit for the fiscal year
- The main book from the beginning
- Trial balance by fiscal year
- Accounts payable details
- Loan details
- Lists of suppliers, customers, employees
- Vat details
- Salary data
Look for an accountant
The company has more complexity when it comes to tax returns and preparation. That’s why it’s a good idea to find an accountant as soon as possible to walk you through your responsibilities and tell you right from the start what you need to do to ensure a smooth transition. Talk to a renowned accounting firm or a tax consultant near me for more clarity.