Ontario’s Business Structures- which one is right for you?

Starting a business may seem daunting at first because of the many decisions one has to make. One of the most important initial decisions to make is the type of business structure to adopt. Choosing an ideal business structure depends on your business goals, target market, liability considerations, tax considerations and many other factors. The most common types of business structures in Ontario are: sole-proprietorship, partnerships, limited partnerships, corporations and cooperatives. Each business structure has its own advantages and disadvantages and we would be discussing them all in our Business Structure Series.

Sole Proprietorship

A sole proprietorship is the simplest and least expensive type of business structure, which makes it very common. In a sole proprietorship, the sole proprietor and the business are considered as one and the same under the law. While this makes the business easy to run, it also translates into unlimited liability for the business owner. Essentially, what this means is that both personal and business assets can be used to offset debts, and the sole proprietor can be personally sued for damages for damages caused while running the business.

Another peculiarity of this business structure is the independence it gives to the sole proprietor, to operate the business the way she or he deems fit. They are also entitled to all the profits and losses made in the business.

There are some tax implications to consider when setting up a sole proprietorship. The sole proprietor would be taxed personal income tax on any profit and loss made by the business because that individual and the business are regarded as one.

There are several advantages and disadvantages that this business structure offers, some of which are considered below.

Advantages

  • Easy and inexpensive to set up
  • Low start-up capital needed
  • Sole proprietor controls the business and makes decisions alone
  • All profits made go to the owner
  • Filing tax returns is simple
  • The owner can easily start the business in his or her name

Disadvantages

  • Unlimited liability: Since the business and owner are considered as one, any debt incurred can be enforced against the owner’s personal assets.
  • It can be difficult to raise capital.
  • No continuity in business: once the owner dies, the business dies.
  • Profits cannot be distributed to the owner through tax beneficial methods, including dividends.
  • Profits made are taxed at the owner’s personal income tax rate

Most individuals looking to go into business start off with a sole proprietorship because of its simplicity and flexibility. One can also decide to choose other business structures as the business grows. Stay tuned to this series as we will be discussing the intricacies of other business structures available in Ontario!

Partnerships

As the name suggests, a Partnership is created when two or more individuals carry on a business with a view to making profit. Partnerships are within the exclusive jurisdiction of each province. In Ontario partnerships are governed by the Partnership Act. In a partnership, the partners pool resources together and jointly own the business assets. They also share the liability of the partnership jointly.

Generally, a partnership can take one of three forms:

General Partnership

Under a General Partnership, all the partners are involved in the management of the business. They are also jointly responsible for any liability that accrues to the business and are bound by acts and obligations taken by one another.

Limited Partnership

A Limited Partnership is a combination of both General Partners and Limited Partners. Under this Partnership type, the Limited Partners are not involved in the management of the business, rather the General Partner is responsible for all day to day operations and decision making on the part of the partnership. The liability of the limited partners are limited to the capital that they invest into the limited partnership to operate the business. This is unlike General Partners who have unlimited liability in regard to the debts and losses incurred in the business.

Limited Liability Partnership

This is a type of Partnership that is made available to only a certain category of professionals such as lawyers, accountants and doctors. The Partnership Act of each province governs the establishment of this Partnership type and should be consulted to see whether your business type qualifies or not.

Tax Implications:

There are numerous tax implications to consider when setting up a Partnership. The profit or loss made in the business is shared according to any Partnership Agreement that is entered into at the time that the partnership is created, and then each Partner is taxed is based on his or her share.

Advantages and Disadvantages:

There are several advantages and disadvantages that a partnership offers. Some of these points are considered below:

Advantages

  • Easy to raise capital since partners pool resources together.
  • Partners own the business assets jointly.
  • Profit made by the partnership is shared by the partners.
  • Partners manage the business jointly.
  • Business risk is shared amongst partners.
  • Filing tax returns is relatively simple.

Disadvantages

  • Unlimited liability – Since the business and Partners are considered as one, any debt incurred can be enforced against the Partners. Note that this liability concern does not apply to Limited Partners in a limited partnership because their liability is limited to the capital invested into the business.
  • It may be difficult and slower to make decisions because you need buy-in from each of the partners.
  • Partners can legally bind other Partners by their acts.
  • It may be difficult to find compatible Partners.
  • There is a risk of conflict between Partners.
  • Profits which are made by the partnership are taxed at the Partner’s personal income tax rate.
  • Succession issues – there is no automatic succession, generally once a partner dies, the business can be at an end.

Prior to deciding to establish a business as a partnership, it is vital to set out the defined roles of each Partner in a Partnership Agreement to avoid future disagreements in the business.

Corporations

A corporation is a legal entity that is separate and distinct from its owners. This means that the company has a separate existence from those that created it and can operate on its own. The company can do many things that an individual can do, including entering into contracts, owning property, suing and being sued and perform many other independent functions. This business structure is more complex than a sole proprietorship or partnership.

As stated above, incorporation of a company allows that company to function as a separate entity from its owners and this helps in limiting the liability of business debts. Therefore, business owners cannot generally be sued personally for the debts or acts of the company.

Incorporation also offers the advantage of sale and transfer of shares by the shareholders of the company and distribution of profit through dividends. Unlike sole proprietorships and partnerships, a corporation can exist long after the original owners leave the company, since its lifespan is not dependent on the owners.

Incorporating a company can either be done at the provincial or federal level. When a company is incorporated at the provincial level, it can generally only carry on business in that province. If it wishes to operate in another province, a license may be required or at the very least extra-provincial registration may be necessary. In Ontario, a company is incorporated under the Business Corporations Act. If a business intends to operate in multiple jurisdictions in Canada, it is usually advantageous to incorporate at the federal level so that the business can operate in more than one province or outside Canada.

Due to the complexity of this business structure, proper accounting records must be kept, and corporate tax would be paid alongside the business income that is distributed to the shareholders and employees (through dividends, salary, etc.). There are also strict rules surrounding the proper governance of a corporation, including the requirement to hold regular meetings and determining which parties can make decisions on behalf of the corporation.

There are several advantages and disadvantages that a corporation offers. Some of them are considered below:

Advantages

  • Limited liability – the business owners cannot, in most instances, be sued personally for the debts or acts of the corporation.
  • It can be easier to raise capital through financial institutions and with investors by selling shares of the corporation.
  • The corporation has a separate legal entity; can sue and be sued.
  • Ownership can be transferred through the transfer of shares in the corporation.
  • The corporation can continue in perpetuity even if the original owners leave so long as the shares are transferred to new shareholders.
  • Profit can be distributed to the owners through salary or dividends, or can be maintained in the corporation at a tax advantageous rate.
  • There may be tax advantages if the business qualifies for a small business tax rate
  • Incorporation helps to protect a business name.
  • Incorporation may be a requirement to qualify for certain transactions including transactions with other corporate or government entities.

Disadvantages

  • It is the most expensive business structure to set up and maintain.
  • There is an increased likelihood of double taxation (both at the corporate and the personal level).
  • It requires detailed book-keeping
  • Corporations are highly regulated by the government.
  • It requires a lot of documentation and corporate records ( minutes, registers, resolutions, etc)
  • Tax returns need to be filed for the corporation and the owners of the business as well.
  • The company generally bears any loss by the business, as no personal money earned can be used to offset it – since the corporation and the owners are fully separate entities.

Although complex, incorporation can provide your company with a reputational boost showing that the business is formally set up and separate from the owners of the business. Despite its relative complexity, due to its many benefits, it is a structure many business owners tend to adopt.

Cooperatives

A cooperative is a corporation that is made up of a group of people who come together to meet a common goal. It is set up and controlled by its members and serves to advance the interests of those members. These interests could range from economic to environmental, and even cultural interests.

Just like a regular corporation, incorporating a cooperative can be done at the provincial or federal level. In Ontario, a cooperative is incorporated under the Co-operative Corporations Act and presently, 11 types of cooperatives are recognized. They include: service, consumer, supply, worker, marketing, childcare, housing, housing development, farming and supply, milk transport, and renewable energy. Therefore, individuals who have a common interest in these listed areas can come together to form a cooperative to protect and meet their collective needs.

One distinguishing factor about a cooperative is that it functions on democratic principles, so each member is entitled to only one vote at meetings. This structure ensures that no one member can take control over the operations of the cooperative.

A cooperative could be set up as a non-profit or profit organization, and where it’s for profit, such profit is distributed amongst its members.

Since a cooperative is incorporated, it can perform all the normal functions of a corporation such as entering into contracts and limiting the liability of its members.

There are several advantages and disadvantages that a cooperative offers. Some of them are considered below:

Advantages

  • Limited liability – members cannot be sued for the debts or acts of the cooperative.
  • Members manage the cooperative jointly.
  • Profit made is shared amongst the members of the cooperative.
  • It operates on a democratic system so that a member gets just one vote

Disadvantages

  • Due to the size of membership, decision-making may be slow
  • There is a risk of conflict between members
  • There has to be active participation by members for the cooperative to succeed

The Ontario Co-operative Association has a much more thorough discussion about cooperatives at the following link.

As mentioned, we’ve been able to explore various types of business structures available in Ontario; such as sole proprietorships, partnerships, corporations and now cooperatives. While each structure offers differing benefits and drawbacks, it is in your best interest to consult with a corporate lawyer and accounting professional to guide you on which business structure option best supports your goals.

For any questions or advice on which business structure is right for you , please don’t hesitate to contact Northview Law at 416-639-7639, or follow this link to book a free consultation.