If you work in certain professions in Canada, you may be able to save taxes by forming a professional corporation. These are similar to regular corporations but do not limit the liability of the professional if they are sued for malpractice or “errors and omissions.”
Read on to learn whether you qualify to form a professional corporation and some of the pros and cons.
What is considered a professional corporation?
Every adult in Canada can start a regular corporation. Do you want to have the title President and CEO? Simply set up a company and appoint yourself to the post. On the other hand, professional service corporations are different. In order to establish one, you must be licensed by the professional regulator in your province. For example, the Royal College of Dental Surgeons of Ontario governs dentists in Ontario.
Who can form a professional corporation?
Only certain licensed professionals can start a professional corporation. Typically, these include doctors, dentists, engineers, lawyers, accountants, veterinarians, social workers and certain healthcare workers.
You will need to check with your professional licensing organization in your province to see whether your occupation is permitted to form such a corporation. If you are in Ontario, you can learn more about professional corporations on the province’s website.
The rules may vary between professions. Here’s a professional corporation example: In Ontario, doctors and dentists are allowed to have non-professional shareholders. When forming their professional corporation, they can make their spouse and even children (over 18) non-voting shareholders. This lets them income split within their family, potentially reducing their tax burden with a medicine professional corporation.
Normally, the officers and directors of a professional corporation must also be the shareholders.
Professional corporation advantages and disadvantages
There are a number of benefits of a professional corporation, including preferred tax treatment. However, there are setup and annual legal and accounting costs. Here are some of the professional corporation pros and cons:
Liability
With most corporations, there is limited liability if it is unable to pay its bills or faces a damage claim from a lawsuit. The corporation’s assets can be seized to pay these debts. However, a shareholder’s personal assets, such as a house and savings, cannot be touched. (Directors of the corporation are responsible for paying outstanding wages and benefits, to a certain limit.)
A professional corporation is a bit different. Professional liability is NOT limited if the person operates through a professional corporation. They are still liable for malpractice or errors and omissions.
Tax benefits
There can be several tax advantages to forming a professional corporation:
- Income splitting: As indicated, some provinces allow certain professions to have spouses (and even children) as shareholders. This enables a professional to split income, potentially reducing tax owing.
- Tax deferral: You can take only the funds you need for living out of the corporation. Any remaining funds can be kept in the corporation, deferring the tax hit. These funds could be invested for dividend and interest income.
- Small business deduction: Professional corporations are treated as small businesses. This means that they receive a preferential tax rate on the first $500,000 of income.
- Capital gains: When a professional corporation is sold, the shareholders can claim a deduction for their lifetime capital gains exemption.
Higher costs
While there are tax benefits to running a professional corporation, there are expenses. At the outset, you will have to pay a lawyer to set up the company and file the appropriate articles of incorporation. Each year, you will need to hire an accountant to prepare the corporate income tax return. As well, a lawyer will be needed to keep your corporate records.
Since many professionals earn substantial incomes, the significant tax benefits can easily offset these costs. However, you will have to crunch the numbers yourself and decide!
Dentistry Professional Corporation
One or more dentists can form a dentistry professional corporation, just like other professionals. If you are partnering with other dentists, an important component of such a corporation would be setting up a Unanimous Shareholder Agreement. This document explains how much money each dentist must contribute to finance the startup and what will happen if it needs additional funds. In addition, it should include provisions in the event that one dentist wishes to leave the practice.
Other professionals setting up a corporation would also be wise to include a Unanimous Shareholder Agreement.
Professional Corporation Checklist
There are a number of steps that you must take when establishing a professional corporation. These include:
- Banking: You will need to set up banking under the corporation. You will no longer be able to use your existing account for the company.
- HST: You must register for a new business number for your professional corporation with the CRA (Canada Revenue Agency).
- Business information: You will need to update your business cards, letterhead, website and other materials with the name of the professional corporation
- Assets: If you have an existing professional practice, you may wish to transfer assets such as furniture and equipment to the new corporation. Check with your accountant to see how this should be handled.
In summary: Professional service corporations
Professional corporations offer a great way for individual professionals, or a group of professionals, to establish a practice. There can be tax benefits for everyone involved. The first step is to check whether members of your profession are eligible to start a professional corporation in your province. Secondly, you should review the numbers to see whether it makes financial sense. Be sure to get advice from an accountant and lawyer in your province or territory.
