Tax planning opportunities include:
Tax Planning
Small business owners have several opportunities available to them to reduce their taxes and protect their assets.
Incorporation
While it may seem obvious, the simple act of incorporating your business has a multitude of benefits. The most significant is asset protection. A creditor of your company is generally not able to sue the shareholders of the company, so only the assets owned by the company are at risk. This is why a holding company is often used to own the shares of the operating company. Provided that after-tax income is regularly moved from the operating company to the holding company, there is less available for a creditor to attach in the operating company.
Additional benefits of incorporation include access to the small business deduction which provides preferential tax rates on the first $500,000 of active business income earned each year. As well, shareholders may be able to access the lifetime capital gains exemption of approximately $845,000 when they sell their shares.
In addition to incorporating regular for-profit companies, there are often occasions for the incorporation of non-profit companies and societies. Certain types of businesses, such as daycare centres, can choose to operate on a for-profit or non-profit basis. In the latter case, there are Provincial government incentives that may be available which provide a competitive advantage over for-profit competitors.
Income Splitting
Subject to complex new rules on the taxation of split income, there are still opportunities where shares of a company can be issued to certain family members allowing dividends to be paid on such shares. This has the effect of reducing the overall taxes paid by the family unit on funds withdrawn from their family company.
Income splitting can also be achieved through prescribed rate loans from a high income family member to a lower income family member, or to a family trust for the low-income family members, including minor children. If properly structured, the investment income earned on the borrowed funds is taxed in the hands of low income family member and can be used to pay their share of expenses, like private school tuition and sports activity fees.
Corporate Reorganizations
There are several reasons why a corporation may be reorganized, including to bring in family members as shareholders; to remove investment assets from an operating company so that they are protected from creditors of the operating company; or to purify an operating company of passive assets before a share sale to ensure that the gain on the sale will qualify for the enhanced capital gains exemption. If properly structured these transactions are usually tax deferred.
Divisive Reorganizations
A divisive reorganization is the tax-deferred breakup of a company into separate parts. This may be required when business partners decide to part ways or when business assets are being split as part of marriage breakdown.
Amalgamations/Wind-Ups
Generally speaking, taxable Canadian corporations can be combined on a tax-deferred basis. Such combinations may occur after the acquisition of a new company or before the sale of a company where the operating company and holding company are compressed into one.