We wanted to walk you through how to structure your business for tax purposes for a company that is looking to expand and also employ tax planning strategies as a family business. We will discuss the benefits of a corporation, the holding company strategy, and also creditor proofing your operating business.
Benefits of a corporation
You may have heard some of the benefits of using a corporation from a tax and also legal perspective. When you incorporate a business, this is a separate legal entity and from a legal perspective the shareholder's of the business have limited liability. This means that what you invest in the business, the maximum exposure of loss on any potential legal claims is limited to your original investment and not your personal assets. This is a prefer structure, unlike a sole proprietorship or general partnership, the corporation is separate from the shareholder and projects the individual for unlimited liability for personal assets.
From a tax perspective, a corporation allows for the benefit of a tax deferral through the process of retaining profits in the business used for re-investment. Since re-investment in business activities can be deducted for corporate tax purposes, you are using the profits of the business to assist the growth of the business. Therefore, you are deferring taxes by not paying shareholders in the form of salary or dividends.
Another tax planning opportunity arises in family business when you use income splitting. For example you can issue shares to your spouse/children ( as long as they are 18 or older), or pay them a reasonable salary for working in the business. As a result the income taken by the spouse and children will generally be lower than that of the owner/manager of the business and the overall net family taxes have been reduced via this income splitting technique.
We generally recommend using a holding company planning structure which owns the shares of the operating company. This way you can pay dividends tax free between the companies and use a strategy that is know as creditor proofing. See more below:
This strategy starts by paying dividends up to the holding company for the amount of the retained earnings in the operating company. The funds from the holding company are then loaned back to the operating company in the from of a secured loan. This achieves a secured loan receivable on the books of the holding company and thus creditor proofing the operating business since the hold co. has first claim to the assets of the company.
For more information on corporate structures, planning, and re-organizations contacts a MP Group Advisor at 416-214-0527 or visit www.mpgroupcpa.com