Selecting a Type of Business Organization
There are several different forms of business organizations that are available for conducting business in Canada. Each form has its own advantages and disadvantages. The selection of the appropriate form of business organization will depend on many factors, including the circumstances of the investor or business owner, the nature of the activity to be conducted, the method of financing, income tax ramifications and potential liabilities related to the activity.
Some of the more common forms of business organizations are:
- Sole Proprietorships
The business is owned by one individual who is responsible for all of the obligations of the business. This form may be preferable for a small business that wishes to avoid some of the setup costs and regulatory considerations that occur with corporations. Furthermore, non-capital start-up losses of the business are generally deductible from the sole proprietor’s income from other sources.
The disadvantages of this form are that the sole proprietor has unlimited liability, his or her personal assets may be seized to meet the business obligations and the business can only be transferred by selling the assets.
In Ontario, a sole proprietor who carries on business or identifies his or her business to the public under a name other than the name of the owner must register the name.
A corporation is a legal entity distinct from its shareholders. The corporation itself can carry on business and enter into contractual arrangements. As such, the shareholders benefit from limited liability. In addition, unlike a sole proprietorship, a corporation’s existence does not have a finite life since it is not affected by the departure or death of its shareholders or managers. This form also provides flexibility with respect to obtaining financing, and tax and estate planning.
The main disadvantages of this form of business include the costs associated with incorporation, operation and dissolution. In addition, a number of statutory requirements are imposed upon corporations incorporated under the federal or provincial legislation.
Businesses in Ontario may incorporate federally under the Canada Business Corporations Act (CBCA) or provincially under the Ontario Business Corporations Act (OBCA). While the requirements are generally quite similar under both statutes, businesses that plan to operate in multiple provinces within Canada may wish to incorporate under the CBCA. In addition, it is important to note that the CBCA and OBCA have different requirements for how many directors of the corporation must be resident Canadian.
Under both the CBCA and OBCA, a business is incorporated by filing articles of incorporation. The details of the management and ownership of the corporation can be further clarified by drafting corporate by-laws and a shareholders agreement.
Unlike a corporation, a partnership is not a separate legal entity, but a relationship among natural persons, corporations or other partnerships carrying on business in common with a view to profit. The rights and obligations of the partners among themselves are usually set out in a written partnership agreement. Without such an agreement, the provincial legislation will apply.
A partnership is an attractive option primarily for tax reasons. The most significant advantage is that partners can offset their share of the partnership’s business tax losses against their income from other sources.
The disadvantage of a general partnership, is that each partner has unlimited liability for the liabilities of the partnership incurred while he/she was a partner. In addition, each partner may bind the others unless there are restrictions in the partnership agreement of which third parties have notice. In Ontario, all of the partners of a general partnership must register the name of the partnership unless the business is carried on under the names of the parties.
As an alternative to a general partnership, limited partnerships are made up of one or more general partners, each of whom has the same rights and obligations as a partners in a general partnership, and one or more limited partners, whose powers and liabilities are limited. This form allows passive investors to invest with minimal risk. To establish a limited partnership in Ontario, a declaration must be signed by all of the general partners on behalf of all of the partners and filed under the limited partnership legislation. As with a general partnership, it is possible to have a written partnership agreement.
- Alternatives to Forms of Business Organizations
Joint ventures are often used in the real estate context avoid the unlimited joint and several liability applicable to partners. A joint venture agreement must be carefully drafted to ensure that the venture is not considered a partnership.
A franchise is an agreement where a franchisor permits a franchisee to use a trade-mark or trade name within a certain territory. In Ontario, franchise disclosure legislation imposes pre-sale disclosure obligations on franchisors and regulates the relationship between franchisors and franchisees.
Finally, in a licensing arrangement, a licensor may grant a licensee the right to use their intellectual property within the licensee’s business. This relationship is governed by a license between the two parties.