Business owners: why you MUST use separate corporations.

USE OF SEPARATE CORPORATIONS

The use of separate corporations to carry on different businesses is a basic creditor proofing technique that should always be considered when starting a new business. Separate corporations generally have limited liability, which will help insulate the assets associated with one business from any risks associated with another business. The use of separate corporations is also recommended where a business has used accumulated earnings to acquire significant liquid and/or investment assets or perhaps real estate. For example, it is desirable for real estate and/or equipment which is used in the business to be owned by a separate company(Holding Company), rather than be owned by the operating company. In this manner, the real estate can be protected from direct creditors of the operating business.

If the operating company already owns real estate, it may be possible to separate the real estate by means of a tax deferred corporate reorganization. Where the real estate is owned separate from the operating company, the company owning the real estate would generally charge the operating company a fair market value
rent.

This type of arrangement may also provide ancillary tax benefits with regard to the potential for a more rapid deduction of the leasehold improvements incurred by the operating company.

In addition to real estate assets, other liquid assets(such as cash) accumulating in an operating company should be separated from the company to the extent there are accumulated earnings. For example, term deposits owned by an operating company could be separated and transferred to a holding company by having the operating company pay a tax-deferred dividend to the holding company. In the future, if the
operating company requires the funds, the holding company could then loan the funds back by way of a registered debenture, so that, in the event of a business failure, the holding company’s right to realize on the loan would precede the rights of any general unsecured creditors of the operating company.

If a holding company does not currently exist, a relatively simple re-organization6 could take place to establish a holding company and protect the investment assets of the operating company.

As usual, you should seek professional advice before implementing your new structure - call me or email me if you have any questions.