As a business owner, you may have been advised to get yourself incorporated. However, you might not be sure of the benefits you would get, or even how to start a corporation if you find it’s the right structure for your business. But there’s no need to worry as we’re here to explain. In this post, we’ll be peeling back the curtain to show you the benefits and drawbacks of incorporating a business, lay out the steps for registering a corporation, and give you a quick introduction to this business type.
What Is a Corporation?
A corporation is a type of business that is a separate legal entity from its owners. The owners control the business through the shares they hold in the entity. Most corporations are held with shares owned by just a few individuals. As an independent entity, a corporation can purchase assets, hire employees, sue and be sued, and finalize contracts. Forming a corporation gives the business a distinct identity that protects its owners from being personally liable for any corporate debts or claims against the business.
A typical corporation consists of three groups:
- Board of directors
Shareholders are the people who legally own the business. These individuals are responsible for electing members of the board of directors, who then govern the entity by appointing corporate officers. It’s the corporate officers – CEO, COO, CFO, etc. – who manage the day-to-day operations of the business. Directors and officers do not necessarily have to hold shares in the entity, although no restrictions are preventing them from owning a part of the business.
What Is a One Person Corporation?
A One Person Corporation (OPC) in an independent legal entity owned and operated by a single person. You can be the sole shareholder, director, CEO, and CMO for your company. However, you still must fulfill the necessary legal requirements to ensure your business remains in good standing. Registering a one person corporation is straightforward if you own a for-profit business venture. Not-for-profit corporations usually require that the board consists of at least three directors.
One thing to keep in mind is that double taxation can bring troubles for OPCs, as all the shares are owned by a single person. Not only will you have to pay taxes on your dividend earnings, but you will also need to pay the income tax levied on the profits of your corporation. Therefore, you might want to start a business venture that prevents the state from levying a separate tax on your profits, such as sole proprietorship.
What Is a Corporate Name?
Registering a corporation in the US or Canada requires you to pick a corporate name with a legal ending. For example, if you own an online toy store, you can choose a corporate name like Toy Kingdom Corp. or Toy Kingdom Inc. for your business. Corp. (short for corporation) and Inc. (short for incorporated) are the legal elements that confirm your business is officially incorporated. Besides these two elements, you can also choose Ltd. (short for limited) as the legal ending for your corporate name. All three legal endings give corporations the same status, responsibilities, and rights under the law.
Benefits of Starting a Corporation
Incorporating a business provides several advantages. Here are some you should be aware of:
The biggest advantage of a corporation is that it offers limited liability protection to shareholders. This means your personal assets are not subject to seizure if the company fails to clear its liabilities or debts. In contrast, a sole proprietorship or general partnership doesn’t treat your business as a separate entity, meaning your personal assets can be used to cover the debt.
A corporation’s individual existence allows it to continue far beyond the owner’s lifespan. If the owner dies or gifts their shares in the company, the corporation will still exist and can continue to operate as normal. Moreover, you can transfer its ownership to another individual or business. Conversely, a sole proprietorship dissolves with the death of its owner.
Corporations enjoy a lower federal income tax rate than partnerships and sole proprietor businesses. In addition, they’re often eligible for tax deductions, such as the deductibility of owner-paid health insurance premiums. Corporation owners may also save on self-employment taxes, as corporate income is not subject to Medicare, Workers Compensation, or Social Insurance taxes.
Operating your business as a corporation gives you instant credibility. Customers, suppliers and investors often perceive corporations are more stable than other companies. Plus, the corporation is historically regarded as the most prestigious type of business entity. All of this suggests that forming a corporation can have a positive impact on people’s perception of your business.
Ability to raise capital
It’s easier for a corporation to raise funds as it can issue a portion of ownership shares. Most investors prefer to put money into Corp. companies because of the ease of transfer of the shares. Banks, too, are more generous towards corporations than unincorporated firms when it comes to approving a business loan.
Drawbacks of Forming a Corporation
Of course, a corporation also brings some disadvantages – especially for small business owners. Here are the main ones to look out for:
Perhaps the biggest disadvantage of owning a corporation is that you have to pay taxes on both a personal and business level. As the corporation is a legal entity in its own right, it has to pay taxes on its annual earnings independently. Then, the owners receiving income in the shape of dividends are taxed again on the same income. If you want to avoid double taxation, consider forming a limited liability company (LLC) over a corporation. LLCs regard the income of the company and its owner as the same and “pass through” taxes from the entity to the individual.
It usually costs more to register a corporation than, say, set up a sole proprietorship. You need to pay the applicable filing fees and file articles of incorporation with your state. Many states also impose ongoing fees on corporations, such as franchise tax and annual report fees. And besides state fees, corporations also need to pay for things like business license and legal consultancy.
Lots of paperwork
Setting up a corporation also requires a substantial amount of paperwork. Aside from incorporation documents, your state may also require you to file bylaws, including a statement of purpose and details about meetings. Additionally, you must keep accurate financial records so the corporation can file annual reports and tax returns. Entrepreneurs without a business license will need to prepare other documents (like a list of ownership and management) before organizing corporate paperwork.
How to Start a Corporation in 6 Steps
If you’ve weighed the pros and cons and are still interested in forming a corporation, you’re probably wondering where you should start. Below, we list all the steps involved in setting up a corporation. Since most of our readers either own a small business or are looking to start one, we’ll also be explaining how to start a corporation online – because you can.
1. Pick a corporate name
The first step is to choose a corporate name that is not being used by another company in the state you want to incorporate in. Fortunately, most states have online databases where you can see if your business name is already taken. Visit your secretary of state’s or business formation agency’s website to find this search option. An effective corporate name should describe the nature and purpose of your business. It should be something people will remember and understand. Lastly, it should include a legal designation like “Corp.” or “Inc.” at the end.
Pro tip: Check to see if the domain name associated with your corporate name is available. If it is, considering registering the domain as it will make it easy to develop an online presence. You can use Shopify’s domain name tool to check for both domain availability and pricing.
2. File your certificate of incorporation
Certificate of incorporation, or article of incorporation, is a document that lists important information about your company, like its corporate name, mailing address, purpose, and names and addresses of directors and officers. You can download a PDF copy of the certificates of incorporation from your state’s website. Almost all state websites include step-by-step guidance for how to complete and file the document. You can submit your certificates in-person by visiting your secretary of state’s office or appointed agency, though it’s much easier to submit online or by email. Most states now give the option to file articles of incorporation digitally.
Note that you’ll need to pay a filing fee that ranges from $150 to $800 when registering with the state. After the state accepts your filing, it will send you a letter or a receipt that officially certifies the formation of your corporation.
3. Draft corporate bylaws and shareholder’s agreement
Corporate bylaws are one of the most important documents for a corporation because they serve as formal guidelines for how the entity will operate, handle ownership shares, distribute profits, resolve disputes, and so on. Not all states require corporations to create corporate bylaws, but you can develop them for internal use. Once drafted, you can share a copy with directors and officers to make the organization’s rules clear to everyone.
Additionally, you need to create a shareholder agreement to define the rights of shareholders to sell, transfer, or hold their shares. The document can also include criteria for who can purchase shares and how shares will be handled in case of a shareholder’s death. Drafting a shareholder agreement is an effective way to regulate the ownership of the company.
4. Appoint the directors
Corporation directors are responsible for governing the corporation and making important decisions about its future. Such decisions include appointing officers, approving loans, and enforcing the adoption of corporate bylaws. Under state laws, it’s possible to create a board with just one director (as long as the corporation has just one shareholder). So, after you incorporate your business, you can appoint yourself as the director by preparing a meeting minutes document which states you elected yourself as the sole director of your corporation’s board.
5. Get your EIN/BN
US corporations require an Employer Identification Number (EIN or FEIN) before they can open a business bank account or file taxes. Fortunately, obtaining one is quick and easy if you apply for an EIN online on the IRS website. The Canadian equivalent of Employer Identification Number is Business Number (BN). So Canadian corporations need to obtain a BN to simplify their dealings with the federal and provincial governments. The easiest way to get a BN is to apply for it via the CRA’s Business Registration Online service.
6. Obtain necessary licenses and permits
Most corporations require at least one license or permit to operate legally. For example, companies operating in the food industry will need to obtain a health permit, and many other industries also require permits and licenses. The fees and requirements for these vary from state to state. Check with your state to learn what licenses you need to obtain for your newly formed corporation.
How to Start a Corporation Online
Many small business owners incorporate by contracting an attorney to register their business for them, but you can do this on your own by filing for incorporation on the internet. Some websites exist only to help entrepreneurs like you start a corporation online and avoid the expense of hiring an attorney. Here are some of the most popular:
Incorporate.com – offers a hassle-free route to registering a corporation. Simply decide how you want to incorporate, select a state for your company and choose a package that suits your budget and requirements.
My Corporation – assists with forming a corporation by efficiently and quickly finishing all the paperwork on your behalf. Plus, they can help with incorporating a business in Canada as well as the US.
LegalZoom – has an online portal where you can generate the required business incorporation documents and check corporate name availability. They also offer packages for filing certificates of incorporation with the Secretary of State.
Now that you’ve learned how to start a corporation, you can go ahead and get started on preparing your documents. File them with your Secretary of State in-person or offline and wait for an official acknowledgement. Once you receive a letter stating that the state approves the formation of your corporation, your business will be considered as an independent legal entity. That said, not every entrepreneur needs to register a corporation. If your business venture is new, in the hobby stage, or a side hustle, you might be better off choosing not to incorporate.