For professionals (like lawyers, dentists, doctors, and accountants), incorporating allows them to offer their services through a corporate entity. However, professionals must still adhere to rules and regulations set by their governing professional body. Every province has its own. This ensures that the professional maintains an accepted standard in their practice.
Incorporating for professionals has pros and cons. While there are many tax advantages, you should also be aware of how it affects your company structure. To make sure it is the right choice for you, read through this article and consult with a specialist.
Many of these Advantages or Disadvantages can be subjective to each individual business owner’s circumstances. Be sure to read through to our Other Things to Consider section to get a full picture.
Professional Corporations Advantage
With a corporation, you can take advantage of different tax rates such as the small business corporate tax rate. The owners can withdraw cash as necessary. By keeping cash within the corporation, you defer tax to later periods. Incorporated professionals can defer withdrawing funds from the company until they meet a lower tax bracket.
Without a corporation, you have to take all the money you earn (let’s say $200,000) in that year, even if you only needed $60,000 to cover your yearly expenses. With a corporation, you can withdraw only $60,000 for that year and avoid paying the higher income tax rate. This is tax deferred, which can be saved for investment or financing purposes.
Companies can issue salary to family members in a lower tax bracket. This reduces your overall taxes owed. For example, issuing $60,000 and $40,000 to an owner and their spouse (respectively) instead of the owner taking all $100,000 for himself can provide significant tax savings. Remember to be reasonable when issuing payouts. The salary should match the position’s role and responsibilities. Treat family members like arm’s length employees.
Professional Corporations can access two forms of payouts: salary or dividends. Salary is taxed at the personal marginal income rate. Typically, dividends are taxed at a much lower rate. However, there are perks and drawbacks linked to each option. With salary, you are taxed at a higher rate, but it allows you to contribute to your TFSA and RRSP accounts.
Ultimately, it is up the owner to determine what mix will maximize their earnings (based on each owner’s unique circumstances). Not only is your mix determined by current circumstances, but also future predictions. If you expect an economic downturn in the next year, it may not be wise to pay out a large salary. Also consider other sources of income, tax credits, and corporate cash needs.
Professional Corporations Disadvantages
In a non-professional (or general) corporation, your business becomes a corporate entity which can shield the shareholders against some lawsuits. In other words, your personal assets no longer become at risk during a lawsuit. Therefore, the liability is limited to whatever investments you made to the company.
On the other hand, your liability is not limited by the corporate entity in a professional corporation. Professionals must maintain a standard set by their governing professional body. Any malpractice or negligence remains jointly liable to the shareholders. Incorporating your professional business does provide some protection in the form of financing (of a new office, equipment, etc.).
Typically, large law and accounting firms may avoid professional corporation business structure as to prevent personal liability exposure to their shareholders.
However, smaller professional businesses may choose to incorporate, to reap the substantial tax benefits.
It’s also important to note that insurance can reduce the risk involved with liabilities, especially if you are in a high-risk (of legal issues) industry.
Shareholders in a professional corporation must actively practice the same profession. There cannot be multi-disciplinary practice within one single professional corporation. For example, all lawyers practicing under a PC must have shareholders which practice the same profession. Same applies to all other professionals; accountants for accounting firms, etc.
Some exceptions may apply depending on your location. To be sure, consult with your governing professional body. For example, some provinces allow the owner of a Professional Corporation to issue non-voting shares to their immediate family.
A professional corporation can hire and contract workers not actively practicing the same profession. As well, a PC can engage in related activities (to support the professional, such as a receptionist) and subsidiary activities (such as investing cash held within the PC through its deferred tax ability).
Other Things to Consider
A professional corporation must include the words “Professional Corporation” or its French equivalent. It cannot be a numbered name like regular corporations.
Be Aware of Rules and Regulations
With great power, comes great responsibility. When choosing to incorporate a professional business, or any other type of corporation, there are additional forms you should know about. It’s important to stay updated to policies and changes affecting your business. All in all, your tax and record keeping becomes much more involved. As a result, expect an increase in fees associated with accounting, legal, or anything money related.
There are many factors that affect whether or not you should incorporate. At the end of the day, it’s important to understand all the factors and approach from all angles. Incorporating is not just a monetary take.
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