A fundamental decision made by any prospective entrepreneur is: Should I set my business as a sole proprietorship or as a corporation?
Here are some of the important considerations that you must face when making the decision whether or not to incorporate.
Advantages of Incorporation
- Independent Entity – Limited Liability
A corporation is a legal entity independent of its owners, the shareholders. Additionally, the corporation’s liability is limited to its net worth. Accordingly, the shareholder – owners are protected or ‘insured’ from legal action against their personal assets in the event of a liability claim against the corporation.
- Lower corporate income tax rates
In general, income tax rates on pre-dividend corporate income are lower than those of a sole proprietor. For example, in 2014, the corporate income tax rate of 26.5% was lower than the individual base income tax rate.
- Ease of Administration
Corporations often provide a more efficient structure to conduct and account for business activities. This is especially true when considering the rigorous bookkeeping and audit requirements to which businesses are subjected.
A corporate structure projects an image of permanence and stability of business intent to the commercial sector.
- Tax Strategies
A corporate structure has at its disposal a greater variety of tax strategies than a sole proprietorship.
- Investment and Capital raising opportunities
A corporation usually has a greater ability to raise venture capital than a sole proprietorship.
Disadvantages of choosing a corporate structure
- Expense of structure maintenance
There is considerable expense involved in starting and maintaining a corporate structure in comparison to similar costs incurred by a sole proprietor. Corporations must pay and annual filing fees and corporate accounting systems are more complex than that of a sole proprietorship. Often, banks require corporations to have annual audits, as well as other requirements. It is important to understand that many of these costs are related to the breadth of the corporations business activity and size.
- "Double Taxation"
Corporate income is taxed (at 26.5%) at the corporate level. Plus, when corporate income is distributed to the shareholders, the dividend is taxed a second time at the personal level (at least another 25%). Additionally, salaries and wages, already taxed at the corporate level, are taxed a second time to the shareholder-employee.
- "Closing the corporation"
Closing the corporation is a complex procedure with associated cost. A sole proprietorship need not follow any statutory procedure once business activity has ceased.
- "Indirect benefits"
A financial benefit received by the corporation does not automatically and directly accrue to the shareholder – owner. This is because the corporation is a legal entity independent of its owners.