As the owner of a growing Canadian business, you may be considering expanding your operations to meet demand, and secure a more sustainable, profitable future for yourself and your family. You may also want to invest in real estate, start a second business, or protect your assets. At this stage, knowing how to structure your business becomes especially important, and your accountant may talk about ‘holding companies’, ‘sister companies’ and ‘inter-corporate dividends.
If you’re considering different ways to structure your business so that you can grow in the most effective way, be the most tax efficient, and protect your assets, Langley accounting firms along with this short guide, can help you make smarter decisions:
The basics: Operating companies vs Holding companies
These are the two main corporation types you’re likely to come across:
- Operating Company, or OpCo – this company runs your business, generating revenue, employing people and incurring expenses.
- Holding Company, or HoldCo – this company doesn’t actually operate as a business, instead, it holds assets like real estate, investments or shares in other companies, and is used mainly for tax planning and asset protection purposes.
Now we’ll look in a little more detail at sister companies:
Sister companies
This term describes two or more companies that are owned by the same parent company or shareholder, and they’re useful for the following reasons:
- Liability protection – should one business be facing a lawsuit, the other businesses assets are protected.
- Separate branding – each business is able to have its own brand and identity.
- Tax planning – income and expenses can be allocated strategically between the different companies.
The key advantages of a Holding Company structure
Offering a number of key advantages, a holding company structure is when a parent company is created (the holding company) that owns the shares of one or more of the operating companies. These are some of the main advantages of this type of structure:
- Asset protection – it’s easier to protect operating company profits from lawsuits or creditors, by moving them to your holding company. Because it sits above the operating company, the holding company’s assets are usually offered protection.
- Tax deferral – for profits earned by your operating company, personal income tax need not be triggered if you pay dividends to your holding company. By doing so, you can defer taxes and either reinvest the funds, or use them for some other purpose.
How do inter-corporate dividends work?
A holding company structure offers one particularly powerful feature, and that’s its ability to pay inter-corporate dividends, which are paid from one corporation in Canada, to another.
The main benefit of inter-corporate dividends, is that they are usually tax-free, meaning profits can be moved from an operating company to a holding company, with no corporate tax to be paid on the dividend. In terms of cashflow management and tax planning, this is a significant advantage.
Is a holding company structure right for you?
It’s important to recognize that a holding company structure isn’t the best solution for every business, and it does come with extra costs such as annual filings, and both incorporation and accounting fees. But it may be recommended to you by your company tax accountant, if the following applies:
- Your operating company has retained significant earnings
- You want your assets to be protected from business liabilities
- You’re planning a succession or retirement
- You own several investment properties or businesses
As the owner of a Canadian business, the type of corporate structure you choose is a decision that should never be taken lightly. With the ability to save you thousands of dollars in taxes, give you asset security, and set you up for success in the long-term, discussing your options with a tax expert is the best way to ensure you make the smartest decision.