incorporation! Incorporation T Business · PDF filelaw at Grant MacEwan College in ... except...

You can do your ownincorporation!

The incorporation procedure inAlberta is easier than ever. You can incorporate a company yourself

with very little trouble and no legal fees topay. More and more people are using a corporate structure for their businesses.

This guide explains in easy-to-follow steps how to incorporate a small “non-distributing” company under the BusinessCorporations Act. Samples of the forms you need to incorporate and to keep yourcorporation in good standing are providedfor easy reference.

Useful discussions on legal and businessproblems are aimed at getting your corpo-ration off to a good start. A chapter ondissolving your corporation is included soyou can bring your corporation to a grace-ful conclusion, should it become necessary.

Some of the most commonly asked ques-tions answered in this book are —

• What are the benefits of incorporating?• How do you choose a corporate name?• How do you change a company name?• How do you issue shares?• What are the Articles of Incorporation?

• What are the fees for incorporating?• How do you transfer assets into a

corporation?• What meetings must the corporation

hold?• Who can be a director or officer of the

corporation?• What annual reports must be filed?Even if you decide not to incorporate,

this book will serve as a useful guide to theworkings of the Alberta Business Corpora-tions Act.About the authorTom Carter, LLB, operated a private lawpractice for nearly 20 years. In 1998, heclosed the practice to take a position as asenior trust officer and estate consultantwith Canada Trust, and is now teaching law at Grant MacEwan College inEdmonton. Carter has been an instructorfor the Alberta Bar admission course andhas published several articles. He is theauthor of Your Health-Care Directive, So You’ve Been Appointed Executor, and Write Your Legal Will in 3 Easy Steps, allavailable from Self-Counsel Press.

Law/Corporate orBusiness/Small Business

ISBN: 978-1-55180-356-2ISBN: 978-1-55180-356-2

EA

N

www.self-counsel.comUP

C

Not sold separately.

Incorporationand

Business Guidefor

Alberta

L E G A L S E R I E S

• How to form your own corporation

• Includes tax advantages to incorporating

Tom Carter, Lawyer

Canada’soriginal

and leading

publisher of

law for the

layperson

Since 1971

AB Incorp Booklet cover 2009.qxp 2/25/2009 3:27 PM

Copyright © 2001 by Tom Carter.

All rights reserved.

No part of this book may be reproduced or transmitted in any form by any means — graphic, electronic,or mechanical — without permission in writing from the publisher, except by a reviewer who may quotebrief passages in a review. Any request for photocopying, recording, taping, or information storage and re-trieval systems of any part of this book shall be directed in writing to Access Copyright, Canadian Copy-right Licensing Agency. To contact them, call 1-800-893-5777 (extension 235) or go to their website formore information, www.accesscopyright.ca.

Self-Counsel Press acknowledges the financial support of the Government of Canada through the BookPublishing Industry Development Program (BPIDP) for our publishing activities.

Printed in Canada.

First edition: 2001; Reprinted: 2005; 2009

Canadian Cataloguing in Publication DataCarter, Tom (G. Thomas), 1950

Incorporation and Business Guide for Alberta

(Self-counsel legal series)ISBN 978-1-55180-356-2

1. Incorporation—Alberta—Popular works. 2. Private companies—Alberta—Popular worksI. Title. II. SeriesKEA316.Z82C37 2001 346.7123'06622 C2001-911443-5 KF1420.29C37 2001

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AB Incorp Booklet cover 2009.qxp 2/25/2009 3:27 PM

i

1 BEFORE YOU INCORPORATE: WHAT YOU NEED TO KNOW 11. Do You Really Need to Incorporate? 1

1.1 Sole proprietorship 11.2 Partnerships 21.3 Corporation 5

1.3a Separate legal entity 51.3b Perpetual existence 51.3c Limited liability 5

2. Seven Factors to Consider before Incorporating 72.1 The limits of limited liability 7

2.1a Common-sense limits 72.1b A legal limit: The personal guarantee 72.1c Liability for negligence 82.1d An example of limited liability at work 8

2.2 The advantage of perpetual existence 92.2a A practical example of perpetual existence 9

2.3 Tax advantages 102.3a Will you pay less tax? 102.3b Can you defer tax? 102.3c Can you split tax? 112.3d Estate-planning opportunities 112.3e Always get professional tax advice 11

2.4 Complexity 112.5 Cost 122.6 Handling growth 122.7 Credibility 12

3. Five More Things to Know before Incorporating 123.1 Federal or provincial incorporation? 12

3.1a Where the corporation can carry on business 12

CONTENTS

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ii INCORPORATION AND BUSINESS GUIDE FOR ALBERTA

3.1b Priority over names 133.1c Cost 13

3.2 Two types of Alberta corporations 133.2a Distributing corporations 133.2b Non-distributing corporations 13

3.3 Five different roles you must play 133.3a Shareholder 143.3b Director 143.3c Officer 153.3d Employee 153.3e Creditor 15

3.4 The importance of shares 153.4a Two classes of shares 163.4b Par-value and no-par-value shares 16

3.5 Pre-incorporation contracts 164. Conclusion 17

2 HOW TO INCORPORATE 181. Alberta Corporate Registry and the Private Registry System 182. Choosing a Name for the Corporation 18

2.1 Using a number for a name 182.2 Choosing a name 19

2.2a The distinctive element 192.2b The descriptive element 192.2c The legal element 19

2.3 Searching and reserving the name 193. Four Incorporation Documents 19

3.1 NUANS Report 213.2 Articles of Incorporation 213.3 Notice of Address or Notice of Change of Address 233.4 Notice of Directors or Notice of Change of Directors 23

4. Congratulations! It’s a Corporation! 26

3 AFTER YOU INCORPORATE 281. Organizational Meetings and Minute Books 28

1.1 Organizational meeting of first directors 281.1a Adopt By-law 1 281.1b Adopt share certificate 451.1c Adopt corporate seal 45

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CONTENTS iii

1.1d Appoint officers 451.1e Issue shares to shareholders 451.1f Authorize banking 451.1g Dispense with appointment of auditor 451.1h Waiver of notice of the meeting 47

1.2 First meeting of shareholders 471.2a Elect directors 471.2b Confirm By-law 1 471.2c Confirm decision not to appoint auditor 47

1.3 Setting up the minute book 472. Moving Personal Assets into the Corporation 54

2.1 By shareholder’s loan 542.1a Promissory note 542.1b General security agreement 54

2.2 By rollover 543. Borrowing Money from a Bank 544. Doing the Books 575. Government Licenses and Regulations 57

5.1 Federal government 575.1a Goods and Services Tax 575.1b Canada Pension Plan and Employment Insurance 57

5.2 Provincial government 575.2a Alberta Corporate Income Tax 575.2b Workers’ Compensation Board 575.2c Provincial licenses 58

5.3 Municipal regulations 585.3a Business licenses 585.3b Municipal taxes 58

6. Keeping Your Corporation Alive 586.1 Annual general meeting 586.2 Annual return 58

7. Conclusion 61

4 LOOKING AHEAD: BUY-SELL AGREEMENTS, UNANIMOUS SHAREHOLDER AGREEMENTS, SHAREHOLDERS’ REMEDIES, AND ENDING THE CORPORATION 641. Buy-Sell Agreements 64

1.1 How does the agreement work? 651.2 When will the agreement kick in? 65

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iv INCORPORATION AND BUSINESS GUIDE FOR ALBERTA

1.3 What price will be paid for the shares? 651.4 Where will the money come from? 661.5 Always get good advice 66

2. Unanimous Shareholder Agreements 663. Shareholders’ Remedies 754. Ending the Corporation 80

4.1 Failure to file annual returns 804.2 Voluntary dissolution 804.3 Involuntary dissolution 80

SAMPLES

1 Declaration of Trade Name 32 Declaration of Partnership 63 NUANS™ Report 204 Articles of Incorporation 225 Notice of Address or Notice of Change of Address 246 Notice of Directors or Notice of Change of Directors 257 Certificate of Incorporation 278 Minutes of Organizational Meeting of First Directors 299 By-Law No. 1 3010 Sample Share Certificate 4611 Minutes of First Meeting of Shareholders 4812 Register of Directors 4913 Register of Shareholders (Members) 5014 Completed Share Certificate 5115 Particulars of Share Transfers 5316 Register of Mortgages 5517 Promissory Note 5618 Minutes of Annual General Meeting of Shareholders 5919 Minutes of Annual Meeting of Directors 6020 Annual Return 6221 Letter Confirming Filing of Annual Return 6322 Buy-Sell Agreement 6723 Shareholders’ Agreement 76

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v

INCORPORATION PRODUCTAVAILABLE FROM THE PUBLISHER

ORDER FORMPlease send me the following items prepaid:

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Add 5% GST on Minute Book(s) ____________

Postage & handling: for up to three books $ 5.00

Add $1 postage & handling for each additional book ____________

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vi

Laws are constantly changing. Every effortis made to keep this publication as currentas possible. However, the author, the pub-lisher, and the vendor make no representa-tions or warranties regarding the outcomeor the use to which the information in thisbook is put. This book is not a substitute forprofessional advice and cannot by its verynature address special problems or problems

unique to individuals or the communitieswhere they live. It is always best to consultlicensed lawyers, accountants, and otherprofessionals in your own community.

Note: This kit contains access to updatesand/or downloads so you can be sure yourdocuments are current! Government updatesoccur frequently. Checking for updates is re-quired. Go to www.self-counsel.com for moreinformation.

NOTICE

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1

When I was practising law, I was surprisedat the number of people who wanted to runtheir own businesses but assumed theycouldn’t do that unless they incorporated acompany. They didn’t understand that thereare several legitimate ways to carry on abusiness. While incorporation is the rightchoice for many, it is not the right choice for all.

Before you plunge into incorporation, Iwant you to be sure it is the right choice foryou. That’s why I begin this book with a dis-cussion of the three different ways of carry-ing on a private business.

1. Do You Really Need toIncorporate?

There are three ways to carry on business,and it is important for you to know the ad-vantages and disadvantages of each. Onceyou understand each way, you will beequipped to decide if it’s really necessaryfor you to incorporate.

1.1 Sole proprietorship

A sole proprietorship is an unincorporatedbusiness that you own and operate by your-self. But even though sole proprietorshipsare simply one-person operations, there arethousands of them, and they carry on an in-credible variety of business activities. Mosthome-based businesses are unincorporatedsole proprietorships, and almost every in-corporated business started out as the unin-corporated gleam in its founder’s eye.

There are many advantages to sole pro-prietorship. One of the biggest of these iscontrol. For example, as a professional writer,I am sole proprietor of my unincorporatedwriting business. I do all the work myself —make contacts with editors and publishers,discuss ideas for projects, negotiate the con-tracts, do the research, write the material,send it in, send in my bill — all in my ownname. Like other writers, I am free to hiresomeone to help me if I wish. If I needed todo so, I could hire a researcher to dig up in-formation for me or a typist to re-do a man-uscript, but that doesn’t change the fact thatI own and operate my business.

All the income I earn from my businessis mine. I don’t have a separate bank accountfor my business earnings, because I don’tneed one, but I do keep track of what I earnfrom my business as I must report that in-come on my tax return every year. However,like any sole proprietor, I am free to deductfrom that income any and all legitimate ex-penses of carrying on my business. This isan important point that many people mis-understand. You don’t have to incorporate todeduct business expenses.

Many people also think they must incor-porate to protect the name they use to carryon business, but this is not so. Anyone oper-ating a sole proprietorship can take steps toensure that their business name is protected.For example, let’s say that Sally Smith hasher own, sole-proprietorship business mak-ing custom-designed tablecloths. She callsher business Sally’s Table Trappings. This is

1BEFORE YOU INCORPORATE: WHAT YOU NEED TO KNOW

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2 INCORPORATION AND BUSINESS GUIDE FOR ALBERTA

called a trade name, and it is perfectly legalfor Sally to use it, provided it is not alreadyin use by someone else. If Sally wants to besure that no one else is using this name, shecan order a search of all similar trade namescurrently registered with Alberta CorporateRegistry by going to any private registry office.

As her business grows and her tradename becomes known, Sally might worrythat someone might take advantage of it, ei-ther by using it outright or by using a closevariation of it that might confuse her cus-tomers. If she hasn’t done so already, shecan protect herself by registering her tradename at Corporate Registry by filing a Dec-laration of Trade Name. (See Sample 1.) Shecan do this through any private registry of-fice. Sally would simply fill out the form,take it to any one of the private registryservices in Alberta, and pay the necessaryfees. Alberta Corporate Registry charges $10to register a Declaration of Trade Name, andeach private registry office charges its ownfee on top of that.

(Incidentally, this example illustrates an-other of the advantages of operating as asole proprietor: Aside from the Declarationof Trade Name, which is optional but highlyrecommended, there are no papers to filewith the Alberta government. You can justget started.)

Of course, there are disadvantages tosole proprietorships. One of these is that thelaw does not perceive the sole proprietor andhis or her business as separate entities; theproprietor and his or her business are con-sidered one and the same. That means thatSally is personally responsible for the costsshe incurs while operating her business. Ifshe bought some supplies for her business,such as expensive cloth or a new sewingmachine, and hadn’t made enough moneythat month to pay for them, she would haveto dip into her private funds to cover thebill. If she didn’t pay, she would be suedpersonally, and if she lost, she would have

to pay the judgement out of her own pocket.In other words, she personally faces unlim-ited liability for the debts of her business.

However, if Sally incorporates her busi-ness, her corporation would be the buyer ofthese items. If her corporation couldn’t pay,it would be sued, not Sally herself. Any courtjudgement could be satisfied only out of thecorporation’s funds, and Sally’s own moneywould not be at risk, owing to a combinationof two features of incorporated companies:separate legal entity and limited liability.(For a further discussion of these character-istics, see sections 1.3a and 1.3c.)

One other disadvantage of sole propri-etorship is that when the sole proprietor dies,the proprietorship dies. In the case of Sally’sTable Trappings, any equipment and assetsthat Sally had used to run the businesswould pass under her will to the beneficiar-ies of her estate to be disposed of as theywish. (This is one way in which a sole pro-prietorship differs from an incorporatedbusiness, which does not die with its owner.An incorporated business continues to exist,a feature called perpetual existence, andownership of the company can be easilytransferred, as we shall see in section 2.2.)

Of course, as a sole proprietor, Sally isfree to try to sell her business at any time be-fore she dies, if she can find an interestedbuyer who isn’t afraid that her customerswill go elsewhere. Customers often feel aclose bond with the sole proprietor, andthey may not be willing to continue to dobusiness with a new owner whom they don’tknow and with whom they have never dealt,especially if there are many other businessesoffering the same products or services.

1.2 Partnerships

The second common way of carrying onbusiness without incorporating is by form-ing a partnership. Unlike sole proprietor-ships, which are not covered by any specificpiece of legislation, partnerships in Alberta

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BEFORE YOU INCORPORATE: WHAT YOU NEED TO KNOW 3

SAMPLE 1DECLARATION OF TRADE NAME

Declaration of Trade Name Partnership Act

I, SALLY SMITH Name of Declarant

of 12345 67 AVE. EDMONTON AB A1B 2C3 Resident Address in Full

declare that:

1. I have been carrying on or intend to carry on the business of

manufacture and sale of table linens. Type of Business

In EDMONTON , in the Province of Alberta, under City, Town, Village

the name of SALLY'S TABLE TRAPPINGS Trade / Business Name

Use of this name commenced on 1 JAN 20-- Day / Month / Year

2. No other person or persons are associated in partnership with me in this business.

SALLY SMITH 1 JAN 20-- Name of Declarant (please print) Date of Declaration

BUSINESS PERSON [DRIVER'S LICENSE #] Occupation Identification

This information is being collected for the purposes of corporate registry records in accordance with the Partnership Act. Questions about the collection of this information can be directed to the Freedom of Information and Protection of Privacy Coordinator for the Alberta Government, Box 3140, Edmonton, Alberta T5J 2G7, (780) 427-7013.

REG3018 (2003/05)

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are governed by the Partnership Act, whichgives us definitions of three importantterms:

• Partnership: The relationship thatsubsists between persons carrying ona business in common with a view toprofit. [As you would expect, thisdefinition confirms that a partner-ship involves more than one person,but it doesn’t say how many a part-nership may involve. In fact, you canhave two partners, 22, or more.]

• Business: Business includes everytrade, occupation, and profession, sopartnerships can carry on almost anytype of business you can imagine.

• Firm and firm name: Persons whohave entered into a partnership withone another are collectively called afirm, and the name under whichtheir business is conducted is calleda firm name. A partnership can pro-tect its firm name by filing a Decla-ration of Trade Name, if it wishes.

Partnerships are commonly used bylawyers, accountants, and other profession-als, but they can also be used by people whodo not wish to incur the cost and complex-ity of incorporating.

Let’s assume that Sally has talked abouther idea for a custom table-decoration busi-ness with her friend and next-door neigh-bour, Mary, who thinks it is a great idea.Sally has the sewing and design experience,and Mary knows lots of people who enter-tain lavishly and would be willing to pay forunique, exotic tablecloths and napkins. Thepair decide to start the business together.Because there are two of them, their busi-ness can’t be a sole proprietorship. And theydon’t want to go through all the formalitiesand expense of incorporation, because theyaren’t sure yet if the business will succeed.

In fact, Sally and Mary will be partners,and unless they decide to write their own

partnership agreement, their business rela-tionship will be governed by some basicrules found in the Alberta Partnership Act.The most important of these is that eachpartner is an agent of the firm and of theother partners. This means that each is per-sonally liable for the actions of the othersdue to a legal principle called joint and sev-eral liability. For example, Sally might decideto order some expensive gold thread or afancy sewing machine. Even if Mary knowsnothing about this, the principle of joint andseveral liability means that Mary will still bepersonally responsible for payment of thebill.

Because of this principle, Sally and Maryhad better be sure they trust one another,since each has the power to expose the otherto significant liability. However, the news isnot all bad. There is another principle thatsays all the partners are entitled to share equallyin the capital and profits of the business. So ifSally and Mary make money, they share itequally, unless, of course, they have a writ-ten agreement stating otherwise. A partner-ship does not file its own tax return, but itdoes have to keep track of its income andexpenses, and Sally and Mary must reporttheir shares of any profits as income on theirpersonal tax returns every year. Sally andMary will prepare a financial statement forthe partnership each year showing howthey divided the profits.

While partnerships that deliver profes-sional services do not have to file any docu-ments at Corporate Registry, partnershipsthat engage in manufacturing, trading, con-tracting, or mining do. Specifically, suchpartnerships must file a Declaration of Part-nership, which must be signed by all thepartners. It must give the partners’ names,occupations, and residences; set out thename of their firm; state how long the firmhas existed and will exist; and confirm thatthey are all the partners involved in it.

A sample of the Declaration of Partner-ship that Mary and Sally will file is included

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here. (See Sample 2.) The Corporate Registryfee for filing it is $10, and the private reg-istries charge their own fee on top of that.

The Partnership Act sets out many otherrules for partnerships. Some of these con-cern the retirement of partners and the ad-dition of new partners. Since a partnershipdoes not necessarily survive the death of apartner, there are also rules for winding itdown if a partner dies. Again, if Sally andMary do not want these rules to apply totheir partnership, they would have to createtheir own partnership agreement that setsout the arrangements they prefer.

The Partnership Act also provides rulesfor a special kind of partnership called alimited liability partnership. As the namesuggests, such partnerships exist to softenthe impact of unlimited liability on partners.In a limited liability partnership, liabilityrests on the shoulders of a general partner.Liability of the other partners is limited totheir stake in the partnership. Limited liabil-ity partnerships are never used by new busi-nesses of the kind we are discussing, sodetails of these partnerships are not dis-cussed in this book. For a further discussionof limited liability partnerships and also ofpartnership agreements, see Canadian LegalGuide for Small Business, available from Self-Counsel Press.

1.3 Corporation

The third way to carry on business is throughan incorporated company, also called a lim-ited liability corporation, or just simply acorporation. Corporations are distinct fromsole proprietorships and partnerships be-cause of three special legal principles thatapply only to corporations, and not to soleproprietorships or partnerships. These prin-ciples are separate legal entity, perpetual ex-istence, and limited liability. You mustunderstand each of these before you can un-derstand the advantages and disadvantagesof incorporating.

1.3a Separate legal entity

When it comes to corporations, the law playsa game of “let’s pretend.” The law pretendsthat a properly constituted corporation is anindependent personality, separate and dis-tinct from its incorporators.

This bears repeating: A corporation isrecognized by the law as something alto-gether different and apart from the humanbeings who create it. It is every bit as real asthey are as far as the law is concerned. Thisis so even though a corporation can’t do any-thing by itself. It has to have human beingsto make it work.

The concept of separate legal entity is oneof the great leaps of the legal imagination;perhaps the greatest, if you consider thatwithout it, the world of modern business,with its giant multinational corporations,could not exist.

1.3b Perpetual existence

A corollary of separate legal identity is thata corporation has the potential to exist for-ever. The people who set it up will die, butthat has no effect on the corporation. It willcontinue to exist as long as it is kept up-to-date with Alberta Corporate Registry, or untilit is closed down by those who control it.

1.3c Limited liability

The third principle relates to the need togive entrepreneurs protection from the costsof taking on new and potentially risky busi-ness ventures. As we have seen, sole propri-etors and partners are fully liable for thecosts they incur while doing business. If thebusiness doesn’t have the money to pay,they are personally responsible for the en-tire amount. However, by creating the cor-poration — this new legal creature withseparate identity and perpetual existence —those behind the corporation are shelteredby the law. Only the corporation is responsi-ble for its business debts, and it can pay

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SAMPLE 2DECLARATION OF PARTNERSHIP

Declaration of Partnership Partnership Act

We, SALLY SMITH Name of Declarant

MARY JONES Name of Declarant

declare that:

1. We are carrying on or intend to carry on the business of

manufacture and sale of table linens Type of Business

in EDMONTON , in the Province of Alberta, under the name City, Town, Village

of SALLY & MARY'S TABLE TRAPPINGS Business Name

2. The said partnership has existed since 1 JUNE 20-- , and that the Day / Month / Year

partnership will exist; (a) untilDay / Month / Year

(b) for an indefinite period.

3. The persons named in the declaration are the sole members of the partnership.

4. Date of declaration 2 JUNE 20-- Day / Month / Year

5. Name, Address, Occupation and Identification of Partners (If more than two partners, please attach a list)

Name: SALLY SMITHResident Address: 12345 67 AVE. EDMONTON AB A1B 2C3

City, Town, Village Province Postal Code

Occupation: BUSINESS PERSON

[DRIVER'S LICENSE #] Identification

Name: MARY JONESResident Address: 12347 67 AVE. EDMONTON AB A1B 2C3

City, Town, Village Province Postal Code

Occupation: BUSINESS PERSON

[DRIVER'S LICENSE #] Identification

This information is being collected for the purposes of corporate registry records in accordance with the Partnership Act. Questions about the collection of this information can be directed to the Freedom of Information and Protection of Privacy Coordinator for the Alberta Government, Box 3140, Edmonton, Alberta T5J 2G7, (780) 427-7013.

REG 3097 (Rev. 2003/05)

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those only out of its own assets. The peoplewho stand behind the corporation are notpersonally responsible to pay its bills if itcan’t.

This may sound like a recipe for fraud.All kinds of legitimate bills could be avoidedif people set up corporations to do theirbusiness for them and put little or no moneyinto those corporations. However, in the realworld, very little business is done with cor-porations that aren’t seen as creditworthy. Ifthe person doing business with a corpora-tion has any doubts about its ability to pay,he or she will look for additional guaranteesof payment. The most common of these is apersonal guarantee from the owners of thecorporation. This document, signed by theowners of the corporation, makes them fullyliable for the costs incurred if the corpora-tion is unable to pay. For more informationon personal guarantees, see section 2.1b.

These three principles are at the founda-tion of any corporation, whether it be a one-or two-person business or a giant like General Motors. Together, they are the rea-son why the corporate form has become thepreferred way of doing business in oureconomy. Now that we understand them,let’s take a look at the advantages of using acorporation for business, from the point ofview of our two entrepreneurs, Sally andMary, and look at some other factors theyneed to consider as they think about settingup their own corporation.

2. Seven Factors to Considerbefore Incorporating

2.1 The limits of limited liability

Limited liability is the main thing many peo-ple think about when they start a corpora-tion. They take comfort in the idea that theirpersonal assets will be protected from thecorporation’s creditors. In reality, however,there are several limits on this protection.

2.1a Common-sense limits

People like Sally and Mary who start busi-nesses are practical, careful people. They donot become successful in business by buy-ing more supplies than they can afford or byproducing more product than they can sell.Also, suppliers are not stupid. They didn’tget to be successful by selling lots of theirproduct or granting huge amounts of creditto new businesses that can’t afford to paythem. So in the beginning, at least, limited li-ability — protection of their personal assetsfrom claims by suppliers and creditors oftheir business — won’t be a big concern toSally and Mary. If they buy only what theycan afford and if they are prompt about pay-ing their bills, limited liability will have lit-tle practical significance.

However, as their business grows, lim-ited liability might become very important.As they gain new customers and hire morepeople, they will inevitably lose direct, per-sonal control over what each and every em-ployee is doing, and over the terms of eachand every contract the company makes. Maryand Sally will move from being hands-onoperators doing everything themselves tomanagers of others hired to do things forthem. Therefore, limited liability will be-come more and more relevant.

2.1b A legal limit: The personalguarantee

As I’ve mentioned, suppliers are not stupid.They know about limited liability. Theyknow that if they deal with small corpora-tions on nothing more than the strength of apromise to pay the bills on time, they mightend up with a pile of bad debts andnowhere to turn to collect the money. So,being prudent business people themselves,they look for other assurances of payment.

In the case of small corporations, themost common of these is a personal guaran-tee from the owners of the corporation — a

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document that says that if the corporationcan’t pay, the owners will, and that to backup that promise, the owner’s personal assetsare available to cover the bill.

For example, let’s say that Sally decidesto rent a space in a strip mall for the busi-ness. She isn’t worried about the cost be-cause she knows that limited liabilityprotects her from the company’s debts. Sheassumes the landlord will let the companysign the lease; as a result, she and Mary willnot be obligated to cover the rent, eventhough she has no intention of seeing thathappen. After all, she is in business to suc-ceed, not to fail.

She finds a nice spot and calls the land-lord to arrange a meeting. They discuss thebusiness, and the landlord finds that he notonly likes Sally but he can see that she is avery good, honest person. But that doesn’tchange the fact that hers is a new company,and the landlord wonders whether or notthe company is going to be able to earnenough money every month to pay the rent.To protect himself, the landlord asks Maryand Sally to sign a personal guarantee thatobligates them to pay out of their own pock-ets if the company can’t.

Similarly, Mary and Sally may approachtheir bank for a loan for the company. Banksare not in the business of loaning money un-less it can be repaid, and they are on thelookout for small corporations that don’thave enough assets to back up their loans.Once again, the bank will ask Sally and Maryto sign personal guarantees of any loan itgives them.

In this way, when dealing with banksand landlords, the advantage of limited lia-bility is eliminated. Later, when the com-pany has grown to sufficient size that thepayment of rent or bank loans is no longerat risk, these personal guarantees are lesslikely to be needed.

Note that in Alberta, a personal guaran-tee must be in writing and a certificate of

independent legal advice must be attachedto it for it to be legal. This means that bothSally and Mary have to go to an independ-ent lawyer to get it signed. They cannot usethe bank’s lawyer, or the landlord’s lawyer,but they can use their own, if they have one.

2.1c Liability for negligence

Another limit to limited liability that is oftenmisunderstood is liability for acts of per-sonal negligence. Limited liability may pro-tect you from responsibility for businessdebts that your corporation incurs, but itnever protects you from responsibility fornegligent acts that cause harm or injury toother people. In other words, if you harmsomeone, you can’t hide behind your com-pany and say that you are not responsiblefor the damage you caused.

For example, let’s say the company buysa car that Mary uses to visit customers. Ifshe runs a red light and hits someone, Marycan’t say that it is only the company’s re-sponsibility. Mary herself is responsible asthe driver of the car, and both Mary and thecompany will be sued. In reality, the com-pany will have insurance to cover such aloss, but if it didn’t, Mary would have tocover it herself, and her personal assetswould be available to do that.

The sphere of negligence is a huge areaof law. A full discussion of it as it relates tocorporations is beyond the scope of thisbook.

2.1d An example of limited liability at work

Here is an example of limited liability atwork. An employee of Sally and Mary’s in-corporated company enters into a series ofunprofitable contracts or orders unneces-sary supplies. If the employee made thedeals as part of his or her normal job, thecompany is responsible and the companywill get sued. If the company can’t pay theamount owing and is closed down, Sally

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and Mary will lose only whatever moneythey put into the company; usually that isthe amount they paid for their shares andthe amount of any loans they may havemade to the company to help it run. Butthey will not be sued personally, and theirpersonal assets will be protected.

2.2 The advantage of perpetualexistence

As we saw, if a sole proprietor or partnerdies, the proprietorship or partnership isterminated. Whether or not the businesscontinues will be up to the heirs of the pro-prietor or the surviving partners.

However, a corporation does not diewhen one or all of its owners do, nor does acorporation end when an owner decides toget out of the business. That’s because cor-porations have perpetual existence. Like theEnergizer Bunny, they just go on, and on,and on. It’s business as usual. Any contractsthe corporation has with customers andsuppliers continue, and so do the debts andother obligations, such as paying the rent orthe bank loan.

2.2a A practical example of perpetual existence

Let’s look at what that means for Sally andMary. What would happen to their corpora-tion if they went on a business trip to Mex-ico to check out cheaper facilities for makingtheir products, and the plane went down? Ifthey did not survive the crash, their owner-ship in the company (represented by theirshares — I will discuss the specifics of thislater) passes under their wills to their heirs.Sally’s shares go to her husband, who is adentist. Mary’s shares go to her three chil-dren. The company continues, but it nowhas entirely new owners who may not knowanything about the business, who may nothave the time or desire to run it, and whomay not even get along.

The good news is that they have some-thing to sell: their shares in the successfulbusiness that Sally and Mary built up. Ifthey sell their shares, the company carrieson. Not only do the new owners benefitfrom all the hard work Sally and Mary did,they can carry on and continue to make itgrow.

The bad news is that there may not beanyone willing to buy the shares. Eventhough the business is being run through acorporation, it may still be Mary and Sally’sbusiness in the eyes of the most importantpeople — the customers. With the twofounders gone, the customers might decideto take their business to other people theyknow, rather than take a chance on newowners they don’t know. If that happens,the heirs have no choice but to wind up thecompany, sell its assets, and pay its debts. Ifthe sale of the corporation’s assets doesn’traise enough to cover the debts, at least theheirs are protected from having to pay theexcess out of their own pockets, thanks tolimited liability. However, they will stillhave to pay any debts covered by personalguarantees. Those documents will containclauses that say they are binding on theheirs and administrators of Sally’s andMary’s estates.

You don’t have to have a two-person corporation.

I use the example of two people forming acorporation, but under Alberta law there isno limit on the number of people who canincorporate a company. It is even possiblefor just one person to do so. In fact, everyyear, a large number of new, one-person corporations come into existence. If youwish to set up a one-person corporation, all you have to do is eliminate the referencesto the second person in the forms. Simplyshow yourself as the incorporator, the onlydirector, the owner of all the shares, and the president.

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2.3 Tax advantages

Aside from limited liability, possible tax ad-vantages are the most common reason whypeople want to set up corporations for theirbusiness activities. That’s because of a taxbenefit available to small corporations, calledthe small-business deduction, that the fed-eral government introduced in 1971 to encourage the development and growth ofsmall businesses. Alberta, which also taxesthe income of small corporations, offers aparallel benefit.

The small-business deduction applies tothe first $400,000 of active business incomethat each small, privately owned incorpo-rated business earns each year. Active busi-ness income is income earned from thecorporation’s normal activities, but does notinclude income from investments. The effectof the combined federal and Alberta deduc-tions is that small-business corporations paytax at a rate of 14 percent on the first $400,000of active business income.

2.3a Will you pay less tax?

If your business earns less than $400,000and your corporation can pay tax at a rate ofonly 14 percent, who wouldn’t incorporate?But remember who is paying the tax — yourcorporation; and remember where the left-over money is — in the corporation. Theproblem now is how you get it out and intoyour pocket, and what happens from a taxpoint of view when you do.

Once again, let’s take the example ofMary and Sally. They can take dollars out oftheir corporation by paying themselves afair and reasonable salary for the work theydo for the corporation, or by taking divi-dends on their shares, or a combination ofboth.

If they take a salary, that amount be-comes a deduction the corporation canclaim, but that amount is income in Sally’sand Mary’s hands. In fact, the corporationmust issue a T4 slip to each of them, and

they must declare that amount on their ownpersonal tax return each year. Net result?No savings. If they take dividends, the sameresult applies. No tax savings. There used tobe savings if money was taken out as dividends, but the government has beenworking hard to tighten up the rules overthe past few years in order to eliminate that.So incorporation may not result in a tax sav-ing to Mary and Sally.

2.3b Can you defer tax?

If your corporation is earning more moneythan you need to live on, and you can affordto leave after-tax income in the company,then you will see a savings, at least until youneed to take that money out for yourself.This tax-planning strategy is called tax de-ferral. The money you leave in the companyis taxed at the small-business rate, and thenext level of tax (the tax you would pay onit personally if you took it out of the busi-ness) is deferred, or delayed, until thatmoney is actually paid out to you as salaryor dividends. This strategy is useful if yourcorporation’s income fluctuates from year toyear and you want to even out the flow toyourself, and if you can afford to live with-out any money from the corporation fromtime to time.

Another deferral strategy available tocorporations involves declaring a bonus,which works like this. Let’s say Sally andMary’s corporation had a good year in 2000and earned more than $400,000 in activebusiness income. The company can declarea bonus payable to them in the amount ofthe excess over $400,000 as long as thatamount is reasonable. Then the companycan deduct that bonus from its earnings forthe year 2000, which brings its active busi-ness income down to the 14 percent taxlevel. Of course, that bonus has to be paid toSally and Mary, and in fact the company canthen wait up to 180 days after the end of theyear 2000 to pay them. As a result, the bonusis not taxable to them until 2001. By adoptingthis strategy, Sally and Mary have delayed

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paying tax on the bonus amount into thenext tax year. Whether or not this is a bene-fit to them depends on their other sources ofincome for 2001, including any more moneythey take out of the corporation during thatyear.

2.3c Can you split tax?

Both of these tax-deferral strategies involvesplitting income between two taxable enti-ties — you and your corporation — to getthe lowest rate. There are other tax-splittingdevices you may be able to use with yourcorporation, and the most common of theseis to split income between family members.If you have a spouse or children who are inlower tax brackets than you are, you canarrange to have your corporation pay divi-dends to them. Of course, if they are work-ing for the corporation, the corporation canpay them fair and reasonable wages for thework they do.

2.3d Estate-planning opportunities

Corporations can be used to cap the value ofa shareholder’s interest, which in turn capsthe amount that has to be declared for taxpurposes when that shareholder dies. Themost common strategy for doing this iscalled an estate freeze, and it works like this.

Let’s say Sally and Mary’s businessflourishes as an unincorporated company,and after only a few years they are offered ahalf-million dollars for it. They decline tosell, but decide for estate-planning purposesto incorporate their business. They transfertheir business to this newly created corpora-tion and take back a special class of shares,called preferred shares, which have a fixedvalue of $250,000 each.

They also set up the normal kind ofshares, called common shares, the value ofwhich will grow as the corporation grows. IfMary and Sally did not also own the com-mon shares, then at their deaths, the valueof their interest in the corporation would be

frozen at the value of the preferred shares,which is $250,000.

There are many variations on this ap-proach, and Mary and Sally would have totake a number of factors into considerationbefore doing this, all of which are outsidethe scope of this discussion. They shouldconsult a lawyer or an accountant, or both.

2.3e Always get professional tax advice

Tax is a complicated technical area, and theinformation given above is meant to serveonly as an introduction. You should alwayshave your own specific situation reviewedby a competent tax advisor before makingyour decision about the tax advantages ofsetting up a corporation.

2.4 Complexity

It may be clear by now that setting up a cor-poration does make life more complex,mainly because that corporation is an inde-pendent legal personality that must bemaintained and properly cared for. Sallyand Mary will soon find that to incorporate,they must set up bank accounts for the com-pany that are separate from their own, keepa separate set of books, and as we shall see,go through the necessary procedures tobring the corporation alive and keep it aliveas far as the government is concerned.

They must also see to the preparationand filing of corporate tax returns: one forthe federal government, and a separate onefor the Alberta Government, because Al-berta collects its own corporate income tax.

Sally and Mary must prepare the corpo-ration’s annual financial statements, andthey must keep track of all the legally re-quired books and records (which I’ll discussin Chapter 3).

Above all, they must always rememberthat they are not the corporation. The corpo-ration is an independent legal entity, and

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even though they are the instruments thatmake it function, it is different and distinctfrom themselves.

2.5 Cost

Sally and Mary must consider the fact that itcosts money to start and maintain a corpo-ration. Even if they avoid legal fees by in-corporating themselves, they still have topay the incorporation fees charged by theAlberta government and the fees charged bythe private registry offices. They may alsoneed an accountant to help them with book-keeping and tax returns, and though theymay set up the corporation without legalhelp, they will surely find that they needlegal advice as the business develops andthe corporation grows.

2.6 Handling growth

Overriding all these other concerns is thepossibility that their business might becomevery successful. If so, Sally and Mary willneed employees, premises, bank loans, andmany other business services as well as ad-visors. They will quickly realize that theyare unable to do it all on their own and willneed to hire good people to help them, ei-ther as employees or as professional advi-sors. They may also need more people toput money into the business, and that raisesthe possibility of taking on more sharehold-ers and directors. If the business gets bigenough, Sally and Mary may even want toconsider selling shares to the general publicthrough a stock exchange. The corporateform of business provides the best way tohandle all the challenges brought on bygrowth.

2.7 Credibility

One of the biggest reasons why peoplechoose to set up a corporation to run theirbusiness is credibility. They want to looklike serious businesspeople in the eyes oftheir suppliers and customers, and also inthe eyes of lenders, such as the banks. The

fact that the business is incorporated makesa positive impression. It says that Sally andMary are serious about what they are doing,that they have put a significant amount oftheir own time and money into getting theirbusiness started in the most sophisticatedway, and that they are confident of success.This will create a good, businesslike impres-sion in the minds of any potential lenders.

3. Five More Things to Knowbefore Incorporating

Mary and Sally have made the decision toincorporate, but there are five more thingsthey need to think about before they startfilling out their incorporation papers.

3.1 Federal or provincialincorporation?

Mary and Sally live in Alberta, and theircorporation will carry on business in Al-berta, so it’s obvious they will incorporate inAlberta, right? Of course, but they need toknow that there are two incorporation sys-tems available to businesspeople in thisprovince. Both the federal and provincialgovernments have authority over the incor-poration of companies under Canada’s con-stitution, so Sally and Mary can incorporatetheir Alberta business under the federal sys-tem or under the Alberta system. However,they must be aware of the three main differ-ences between these two systems.

3.1a Where the corporation cancarry on business

A business incorporated under the federalsystem is entitled to carry on business inany province or territory in Canada, while aprovincially incorporated company can dobusiness only in the province in which it isincorporated. However, this distinction getswatered down in practice, because everyfederally incorporated company must stillfile papers and register its existence in eachprovince or territory in which it does busi-ness. Similarly, an Alberta corporation that

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wants to do business in another province orterritory can do so by filing the necessarypapers with the appropriate authorities.

3.1b Priority over names

Federally incorporated companies do getpriority over corporate names. If you wantto incorporate under the Alberta system,your proposed corporate name will be re-jected if it is the same as or similar to thename of an existing federal corporation.

3.1c Cost

The federal fee for incorporation has alwaysbeen higher than the fee charged by the Al-berta government, and it still is, eventhough the federal fee was recently reducedfrom $300 to $250 (by mail, fax, or in person)or $200 online. The Alberta government in-corporation fee is $100. You must add to thatthe fees charged by the private registry out-lets in Alberta for processing your papers.Those fees range from $50 to $150.

The fact is that the overwhelming major-ity of Alberta’s small-business people whochoose to incorporate use the Alberta sys-tem. If they need to, they can always regis-ter their Alberta company in one or twoneighbouring provinces when the timecomes. Mary and Sally are no different, andthe rest of this book follows the process forincorporating in Alberta.

3.2 Two types of Alberta corporations

Technically, there are two types of corpora-tions that can be incorporated under the Al-berta system, though as you can see fromthe explanations below, only one of themapplies to Mary and Sally.

3.2a Distributing corporations

These are big corporations that have legalauthority and permission to sell (or “distrib-ute”) their shares to the general public, ei-ther directly or through a stock exchange.People buy shares in these companies for

two reasons: they hope that the value of theshares will go up as the company prospersand they expect to receive a share of thecompany’s profits in the form of dividends.Sally and Mary aren’t playing in this league,so they won’t use this kind of corporation.

3.2b Non-distributing corporations

These are corporations that do not have authority or permission to sell their sharesto members of the general public. Non-distributing corporations are divided intotwo subgroups: those with more than 15shareholders and those with 15 or fewershareholders. The main difference betweenthe two is that non-distributing companieswith more than 15 shareholders must file agreat deal of financial information for theprotection of their shareholders.

Since Mary and Sally, like most Albertabusinesspeople who incorporate, will be theonly shareholders of their corporation, theircompany falls into the “15 or fewer share-holders” category of a non-distributing cor-poration, and that is the sort of companywith which the remainder of this book willdeal.

3.3 Five different roles you must play

This is the point at which the principle ofseparate legal entity comes to life. Becausethe corporation will be a distinct legal crea-ture that can act only through the humanswho control it, Mary and Sally must have aclear understanding of the different rolesthey will need to play. These five roles usu-ally apply to everyone who incorporates abusiness.

3.3a Shareholder

Shareholders are the owners of the corpora-tion, but they do not own the actual assets ofthe company. In the case of Sally and Mary,their corporation owns the sewing ma-chines, tables, cloth, supplies, and every-thing else Mary and Sally will need to carry

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on business. What Mary and Sally will ownare the shares in the company, and thoseshares give them three important rights:

i) The right to vote at shareholders’meetings and elect the directors ofthe corporation

ii) The right to a share of the profitsearned by the corporation in theform of dividends

iii) The right to a share of the assets ofthe corporation if it is wound up

Mary and Sally must pay for these rights,and they do that by buying the shares fromthe corporation shortly after it is incorpo-rated. While they may choose to pay a largeamount for their shares, and by doing so puta lot of money into the corporation’s bankaccount to cover its operating costs, it ismore likely that they will pay only a dollaror so for each share. That’s because smallbusinesses of this kind do not usually raisethe money they need to operate from thesale of shares. Instead, Mary and Sally willprobably raise it by borrowing it, eitherfrom themselves or from a bank on thestrength of a personal guarantee.

As shareholders, Mary and Sally do nothave day-to-day control over the operationof their corporation. That power and re-sponsibility is given to the directors. WhatMary and Sally do have is the right to electdirectors, and to vote them out if they arenot doing a good job. Once a year, the direc-tors are required to call an annual generalmeeting to present information about thecorporation’s activities to the shareholders,and if they are dissatisfied they can vote fornew directors at that time.

The main concern of shareholders is asimple and quite personal one: they justwant to know if they are making any moneyfrom their shares. The only liability a share-holder might face is the possibility that thecorporation might fail and not be able torepay the shareholder the amount he or she

paid for the shares. Minimizing that risk isanother reason why Mary and Sally will payonly small amounts for their shares. Formore information on shareholder agreementsand remedies, see Chapter 4.

3.3b Director

The directors run the company. In a smallcorporation, they do everything themselves.In a bigger one, they are free to hire man-agers to look after different aspects of thecorporation’s business and report back tothem. Sally and Mary will be directors oftheir corporation and, in the initial stages atleast, they will do it all themselves. How-ever, they must realize that directors take onsome important responsibilities and liabili-ties because, unlike shareholders, directorsare in a position of trust over the corpora-tion and, to some extent, its employees.They cannot use this position of trust to ben-efit themselves.

The directors of a corporation, no matterhow big or small it may be, must —

i) act honestly and in good faith, in thebest interests of the corporation;

ii) exercise the care and skill of a rea-sonably prudent person;

iii) disclose any personal interest theymay have in any proposed contractwith the corporation;

iv) not allow the sale of shares for any-thing except money; and

v) not issue dividends or sell moreshares unless the corporation meetsthe financial tests set by law.

With respect to employees of the corpo-ration, federal tax law says the directorsmust make sure the corporation sends in theappropriate amounts that must be withheldfor income tax and other federal programsfor each employee or face personal liabilityfor any unpaid amounts. (Directors are alsoliable if the corporation does not send in the

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necessary amounts for GST.) Also, Albertalaw says that directors can be personally li-able for up to six months’ wages of employ-ees if the corporation is closed down or goesinto bankruptcy.

Finally, environmental laws say that di-rectors may be personally responsible forany damage that the corporation causes to theenvironment as it carries out its business.

Note that under the Alberta incorpora-tion system, directors must be over the ageof 18 years, of sound mind, and not in bank-ruptcy. Also, a director must be a human: acorporation cannot be appointed director ofanother corporation.

Sally and Mary need not worry aboutthese responsibilities in the early stages oftheir business, but as it grows, these areaswill become much more important, andthey should be aware of them.

3.3c Officer

The directors have the right to appoint officersto handle different aspects of the corpora-tion’s business. President and secretary-treasurer are two of the most commonofficers found within corporations.

As far as Sally and Mary are concerned,these titles are largely ceremonial. After all,they will be doing all the work themselvesand they will be working closely togetheron a daily basis. But since Sally thought ofthe original business idea, she will becomepresident, and Mary will be secretary-treas-urer. Also, these titles do give credibility tothe operation, and banks in particular like tosee them when they make loans to smallcorporations.

3.3d Employee

In any organization, it’s the employees whodo the work, and they expect to be paid afair wage for doing it. Sally and Mary are nodifferent. In the beginning at least, they willbe doing everything — taking orders, buy-

ing material, sewing product, packing andshipping orders, preparing and sending in-voices, collecting payment, depositing andwriting cheques — everything that needs tohappen to make the business a success. Inother words, they will be the employees ofthe corporation. As directors, they will de-cide how much they are going to pay them-selves, and how often.

3.3e Creditor

As we saw, Mary and Sally will lend moneyto the corporation so it can cover its operat-ing expenses until it makes enough moneyto cover them on its own. That makes themcreditors of the corporation. This fact be-comes important if the corporation can’trepay them. They don’t get special treat-ment just because they incorporated thebusiness and because they own the shares.Instead, they are in the same position asanyone else who lends money to the corpo-ration. If the corporation fails, all the credi-tors share equally in the assets of thecorporation, although those who have spe-cial protection, such as the personal guaran-tees we talked about, will be paid first,while the rest of the creditors — includingSally and Mary — will share whatever isleft over.

3.4 The importance of shares

Shares are the pieces of paper that representownership of a corporation, and they carrywith them the three main rights mentionedabove: the right to vote, the right to a shareof the profits, and the right to a share of theassets on the winding up of the corporation.

Each corporation has the right to issue acertain number of shares, and that numberis called the authorized capital of the corpo-ration. That number is found in a documentcalled the articles of incorporation, whichI’ll discuss in Chapter 2. Most corporationsdo not issue all the authorized shares, andthe number of shares actually issued iscalled the issued share capital.

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In theory, the sale of shares is one of themain ways to raise money, or capital, for thecorporation’s operations, but Mary andSally are not interested in paying largeamounts for their shares. Instead, they willbe loaning money to the corporation, andthey will also be arranging a line of creditthrough a bank.

3.4a Two classes of shares

It is important to note that a corporation canissue two different types, or classes, of shares.These are called common shares and pre-ferred shares.

Common shares

These are the basic shares that every corpo-ration must have, and this is the type ofshare we’ve been talking about so far in thisbook. Common shares must always carry allthree of the rights mentioned above: theright to vote, the right to a share of the prof-its, and the right to a share of the assets onwinding up. Common shares are usually re-ferred to as Class A shares.

Preferred Shares

A corporation can also issue preferred shares;shares with extra privileges, called prefer-ences, that the common shares don’t have.Details of the different types of preferredshares and of the special privileges theycontain are also found in the articles of incorporation.

One typical privilege of preferred sharesis that they allow the incorporators to splitthe corporation’s income with someone else, usually a spouse, without forcing theincorporators to give up any control overthe corporation. The incorporators do thatby issuing a class of preferred shares with apreference for payment of a share of theprofits, but without any voting rights. Thoseshares are called Class B shares.

In fact, preferred shares are very flexibleand can be designed to suit a number of sit-uations. Each class of preferred shares usu-ally carries one preference, and they areissued in series and called Class B, C, or Dshares, as the case may be.

Sally and Mary are not worried aboutpreferred shares right now, but they see thatthey may need to issue some in the future asthe business becomes successful. Therefore,in their articles of incorporation, they are in-cluding the right to issue Class B preferredshares.

3.4b Par-value and no-par-value shares

In the past, the value of a corporation’sshares, called the par value, could be fixedin the corporation’s incorporation docu-ments. Shares that did not have this fixedvalue were called no-par-value shares. Youmay still hear these terms, but please notethat Alberta law abolished par-value sharesquite a few years ago, so Mary and Sally’scorporation will have only no-par-valueshares. Mary and Sally, as directors of thecorporation, will set the value that must bepaid to purchase any shares when the sharesare issued.

3.5 Pre-incorporation contracts

Since Mary and Sally are already in busi-ness, they are presently liable for any con-tracts they make before the corporation isincorporated. However, they might want toshift liability for any new contracts to thecorporation.

For example, they might have a lead onthe perfect warehouse and want to nail thespace down before someone else does. Theyshould make it clear that they are contract-ing “on behalf of a corporation to be incor-porated,” and should write those words onany document they sign. Doing so will givenotice to the people or businesses with

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which they are dealing that once the corpo-ration is in existence, it will have the right toratify and accept the contract. When it does,Sally and Mary will no longer have any re-sponsibility under that contract. If, for somereason, the corporation doesn’t ratify thedeal, Sally and Mary remain personally li-able. However, as the incorporators, share-holders, and directors, they have the powerto make sure it does.

4. Conclusion

There are many reasons why people chooseto incorporate their businesses. For Sallyand Mary, the decision may come down tonothing more tangible than a conviction thatthey are going to be successful and a desireto communicate that conviction to the rest ofthe world. And that is legitimate.

The best advice for anyone consideringincorporation is this: if making a living fromyour business is your main goal, and if youwill need all the money from your businessto live on, then you don’t need a corporation— yet. But if your business will be earningmore money than you need, go ahead.

In the long run, a corporation is theproven choice for those who need flexibility,and incorporating will position you to ben-efit from the growth of your business inways that sole proprietorship and partner-ship cannot.

The rest of this book tells you what to doonce you are sure that a corporation is rightfor you.

Chap01.qxp 2/24/2009 10:06 AM Page 17

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