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Starting a Business

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Business -> Starting a business

Small Business - Start Your Own, Buy Shares or Assets, or Forget It?

One way to financial independence is having a successful business.  There are an endless number of business possibilities, including turning a hobby or a special skill into a business, selling goods in a store or on the internet, or having a website which can earn advertising revenue.  The only limitation is your imagination.  In order to run a successful business, you must know a little bit about every job including president, bookkeeper, sales person, human resources manager, and laborer.  You may be doing all these jobs yourself.  If you stop and look at all the skills you need it might seem insurmountable, but if you acquire these skills slowly by starting a business from scratch, it is amazing how much you can learn.

One thing is certain no matter whether you start or buy a business - you will be committing yourself to long hours and probably low pay, at least in the beginning.  We have purchased one business and started three from scratch, including this website.  When we started the first business we had no business knowledge.  We learned along the way, made enough money to stay out of bankruptcy, raise a family and pay all the bills, and retire at 50 (except for this website!).  If we can do it, you probably can too.

If you are looking into starting or buying a business, keep track of your expenses for tax purposes.

If your small business is incorporated you may be able to take advantage of the $800,000+ capital gains deduction if you sell the shares of the business.

Advantages of starting your own business:

bullet learn as you go
bullet can be started with little money
bullet earnings from the business can be used to fund expansion
bullet can probably be run from home
bullet may be able to do in spare time
bullet might find out you hate it, before committing large sums of money
bullet if the business does well you can do it full time
bullet slowly build a network of customers and business acquaintances who can provide advice/feedback

Advantages of buying a business:

bullet revenue coming in immediately
bullet previous owner may be able to train
bullet immediate customer base
bullet historical financial statements show you how profitable the business is

Disadvantages of buying a business:

bullet need more money for financing
bullet may find out you hate it after committing large sums of money (we did this)
bullet may inherit liabilities from previous owner (happened to us)
bullet assets may not be worth as much as expected (do your due diligence)

Advantages of buying assets:

bullet you will be able to claim capital cost allowance based on the price paid for each depreciable asset.
bullet you are not assuming all the liabilities of the corporation, so there is less chance of "hidden" liabilities

Disadvantages of buying assets:

bullet provincial sales taxes may be payable on the price of the assets
bullet non-capital losses of the corporation selling the assets cannot be used by the buyer

When the assets of a corporation are purchased, it is important to determine the allocation of total purchase price to each asset, for capital cost allowance purposes.  If land is part of the purchase, the seller will want to allocate a higher value to land than to depreciable assets, in order to avoid recapture of capital cost allowance.  The buyer of the assets will want to allocate a higher value to depreciable assets in order to maximize future capital cost allowance.  If the buyer and seller do not agree on an allocation, it is possible that Canada Revenue Agency (CRA) could reallocate the purchase price among the assets based on fair market value.

Buying a business is a more complicated than starting one from scratch.  You must do your due diligence to find out if all the information provided by the seller is correct.  You will want to verify the value of assets, confirm that the financial statements truly represent the financial condition of the business, satisfy yourself that there is a good customer base, and ascertain whether there are any hidden liabilities.

If you are considering purchasing a business with employees, you are going to have to rely on employees or contractors to assist in operating the business.  You may inherit a fair number of employees, without having a good sense of how to manage a business and employees.  If the previous owner is willing to stay on to help orient you to the business, this may be helpful (or not, depending on the previous owner).

Generally, if you are considering purchasing a business, you will either be buying shares or assets.  If the business is not incorporated, you will be buying the assets.  If the business is incorporated, you will often have a choice between buying shares and buying assets.

Whether buying shares or assets, it is important to determine whether you will be acquiring any liabilities or contracts that are associated with the business.  For instance, in some provinces, if the employees of a business are part of a union, any purchaser of the assets is responsible for carrying on the union contract.  Some assets could be pledged as collateral for loans, so it would be important to ensure the assets are free of liens or encumbrances.

When buying an incorporated business, you can either buy the shares of the business, or the assets of the business.  If the business is a qualifying small business corporation, the seller will probably want to sell the shares, in order to take advantage of the $800,000+ capital gains deduction.  This may make the seller motivated to accept a lower price than if the assets were sold.

Advantages of buying shares:

bullet keeping the company name, which makes the change of ownership less transparent to clients/customers
bullet seller should be motivated to accept a lower price
bullet non-capital losses of the purchased corporation may be used by the new owner under certain circumstances
bullet if corporation is in a loss position with losses expiring soon, may be able to amend prior tax returns to reduce the losses, by not taking CCA

Disadvantages of buying shares:

bullet all liabilities of the corporation are being assumed
bullet more possibility of hidden liabilities which may be revealed in audits, such as
bullet provincial sales tax
bullet workers' compensation premiums
bullet payroll taxes
bullet income taxes
bullet capital cost allowance will be based on the tax values of the assets in the corporation before the purchase, which could be significantly lower than their fair market values

When buying a business, the buyer may buy the shares or assets personally, or through a corporation.

It is advisable to do a thorough analysis of after-tax cash flows from the purchased business, comparing the scenarios of buying assets versus shares.  Professional financial and legal help in this area is strongly advised.

The above information is not a complete list of everything that is entailed in buying a business.  A professional accountant can help with your due diligence.

CRA Resources:

Buying a business

Bringing personal assets into your business

Change of owner or directors

RC4070 Information for Canadian Small Businesses

Tax Tip:  If you are starting or buying anything bigger than a lemonade stand, get professional advice!

Revised: September 19, 2017

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