Doing Business in Canada – Part 3 – Business Structures

Foreign persons (individuals and corporations) wishing to establish a business in Canada must decide whether to do so as a sole proprietorship, a partnership of some form, a joint venture or as a corporation of some form. A decision as to whether to establish a branch office or a separate Canadian business organization also must be made.  A wide variety of legal arrangements may be used to carry on business activity in Canada. Factors in the decision-making will include the circumstances of the investor, the nature of the business activity, the tax implications and the potential liabilities related to the business undertaken.

Corporations with Share Capital

Branch Operations

A branch operation in Canada must be registered in each of the provinces in which it carries on business. In addition, foreign entities must complete many of the same disclosures and filings with the federal and provincial governments as are required of domestic entities.

Generally, if the Canadian operation is expected to incur significant losses in its early years of operation, the foreign entity may wish to carry on business in Canada directly through a branch, in order to deduct those losses for foreign tax purposes, if possible. A Canadian branch structure might also be relevant to enable a better matching of the Canadian corporate tax paid with the foreign tax credits available in the home jurisdiction. 

Provincial or Federal Corporate Registration?

Most provinces and territories in Canada have their own corporate legislation. In limited circumstances (for example, banking) the incorporation must be done federally. The federal legislation is the Canada Business Corporations Act (“CBCA”). The provincial and territorial legislation is similar with minor differences. Some provinces and territories, for example, have no requirements for the directors of a corporation to be resident in Canada.

Under the Federal CBCA, foreigners should be aware of the following:

1.         A Canadian corporation must have twenty-five percent of its directors being resident Canadians. A resident Canadian can be either a Canadian citizen or a Canadian permanent resident. Each corporation is required to have a minimum of one director. A director must be an individual person. Directors need not own any shares in a corporation.

2.         A director of a Canadian corporation is subject to a number of liabilities and obligations under corporate law and under federal and provincial legislation. These include liabilities involving environmental, payroll, securities, pensions and tax.

3.         Single shareholders are permitted in a Canadian corporation. The identities of a Canadian corporation’s shareholders are not a matter of public record and a corporation is not obliged to disclose the names of its shareholders, unless it is a public company or a company carrying on business in Québec.

4.         It is common for shareholders to enter into a unanimous shareholders’ agreement to govern the relationship between the shareholders, and to restrict the powers of directors. Minority shareholders have statutory rights and remedies.

5.         Annual financial statements must be approved by the shareholders at an annual meeting properly constituted.

6.         Financial statements are only required to be filed with government bodies for public corporations.

7.         Statutory books and records of a Canadian corporation must be kept in Canada.

The advantages of a corporate structure include:

1.         Liability is limited to the assets of the corporation. The shareholders do not own the property of the corporation, and the rights and liabilities of the corporation are not those of the shareholders. The liability of the shareholders is generally limited to the value of the assets they have invested in the corporation to acquire their shareholdings.

2.         The corporation is treated as a separate entity for tax purposes and there may be tax advantages to using a corporation.

3.         Corporate shares are more readily marketable compared to partnership units/interests or joint venture interests.

Partnerships

Another form of carrying on business in Canada is in a partnership. A partnership is not a separate legal entity. The “partnership” is usually subject to a partnership agreement where one or more individuals carry on business in common with a view to profit. On dissolution of the partnership, the individual partners share in the profits, losses and net proceeds. The partnership agreement typically also deals with events such as death, selling interests in the partnership, retirement, management and other common issues to a business.

In Canada profits and losses flow through to the individual partners subject to some rules under the Income Tax Act. A general partnership’s disadvantage is that each partner is personally liable for the liabilities of the partnership. Each partner’s assets are exposed in the event of the assets being insufficient to cover the liabilities. Limited partnerships are available in some instances to be used. The liability of a limited partner is limited to the extent of the partner’s investment in the partnership, provided that the partner does not take an active role in the business that could attract liability for a decision or action.

Unlimited Liability Corporations

An unlimited liability company (“ULC”) can be formed under the laws of Alberta, British Columbia or Nova Scotia. Legislation in each province is different so an assessment of the advantages and disadvantages of the legislation for the particular business activity is necessary.  A ULC is a form of corporation where the shareholders of the ULC can be liable for the obligations of the ULC. In this respect, a ULC can be similar to a general partnership and is different from the common form of corporation where the corporation’s shareholders are not, in general, liable for the liabilities, acts or omissions of the corporation. This unique nature of the shareholder liability under an ULC also requires that the liability be assessed and mitigated. Some advantages may arise from tax perspectives. In the U.S., for example, the IRS treats the ULC as a flow-through. In Canada, an ULC is treated as any other corporation. The end result is that a ULC is generally a hybrid entity – a corporation for Canadian tax purposes and a flow-through entity for U.S. tax purposes. For U.S. businesses operating in Canada, there may be some advantages in the right situation. Professional advice should be sought.

Proprietorships

The simplest form of business organization, a proprietorship, exists when an individual person carries on business as the sole owner without incorporating. At law, there is no distinction between the proprietorship and the owner; the proprietorship’s income is the owner’s income and the proprietorship’s liabilities are the owner’s personal liabilities. For tax purposes, the proprietorship is not treated as a separate taxpayer. 

Joint Ventures

The term “joint venture” does not have a precise legal definition in Canada. It typically refers to any situation where two or more legal entities share in a common venture. It can refer to joint venture corporations, to partnerships of corporations or, most commonly, to a structure (usually referred to as a contractual joint venture) under which separate corporations own certain assets in common, in the expectation that the venture does not constitute a partnership, at least for tax purposes. The relationship is usually governed by a joint venture contractual agreement.

Corporate and Trade Names

Registration of corporate and trade names is available federally and in the provinces and territories. Name registration, by itself, does not constitute “incorporation” nor does it give the entity proprietary ownership in the name. It simply is a practical way to protect the name as most of the registrars in the provinces will refuse to allow a name to be registered in that province that is the same as, or substantially similar to, that of another existing corporation within that jurisdiction. A name that is used in association with goods or services can be protected by registering it as a trademark under the federal Trademarks Act. Registration gives the owner of the trademark the exclusive right to use the trademark in association with its goods and services throughout Canada.