Startup Law 101: Why should I incorporate my startup?
Legal work that you’ll need upfront
Starting your company is an exciting time.
You’ve got ideas flowing and the promise of making a dream come true just around the corner. With all of that going on, it would sound tempting to have your boring legal documents hastily drafted and signed so you can focus on your product or service.
As someone who’s been directly embedded in a startup accelerator for the past few years, I’ve met my fair share of people who would rather chop off their hand than sit down and review legal documents, especially a lengthy shareholders agreement, but I promise you, having carefully considered documentation and planning will save you from major headaches down the road.
So what exactly are your initial legal considerations?
Your exact legal needs might vary depending on the nature of your company, but essentially, when you start out, you need to address the following issues upfront:
- Incorporating and structuring your business;
- Shareholders agreements;
- Intellectual Property assignments.
Now, that’s just the basics. Further down the line, you’ll need to consider some other things, like stock options plans, employment agreements, contractor agreements, non-disclosure agreements, and patent and trademark protection, among others.
Today, I’ll talk frankly about incorporating your business, which sounds a lot more daunting than it is. This is a must-do for startup business owners.
There are several benefits to incorporating your business, namely:
Most startups rely heavily on government grants, tax rebates, and other programs for capital (I’ll list some relevant programs at the bottom of the article). In Atlantic Canada, this could mean funding from the Atlantic Canada Opportunities Agency or provincial Crown Corporations. This funding – and the relationships you’ll form with these organizations – can be a fantastic opportunity. To qualify, however, a company needs to be incorporated.
It’s also worth noting that, if you need to borrow money and are eligible, financial institutions usually offer much better terms for corporations rather than individuals.
You’ll have much easier access to capital:
Many startups raise capital by selling shares to investors. This allows shareholders to participate in the financial success of the company. Many provinces have tax rebate programs that give a tax credit for a portion of the investment in a qualifying corporation. The province of Nova Scotia, for example, offers an Innovation Equity Tax Credit (IETC) of 35%, jumping to 45% for life sciences and ocean tech companies. These investment tax credit programs can be a significant incentive for investors in early-stage companies. I’ll discuss investment tax credits in a separate post, as each Atlantic province has its own form of the IETC, with different eligibility criteria.
Your taxes will be lower:
Corporation owners are taxed separately from the corporation. Since Corporate tax rates are lower than personal income tax rates, there is a significant financial benefit. Federal corporate tax rates for qualifying small businesses are taxed at 9% on the first $500,000 of taxable income, much lower than the tax rates for other types of businesses.
If your corporation runs into financial difficulties, the owners (shareholders) are not personally liable for the company’s debts. Unless a shareholder has provided a personal guarantee of corporate debt, if the business is not successful, there is no risk of exposing personal assets to creditors.
Use your corporation’s name, not your own:
A corporation can buy goods and services separate and apart from the individual members of the company. Your corporation can own property, take out loans, and enter into contracts, so you don’t have to do any of these things personally. All your intellectual property can go under the company’s name instead of individual partners or employees holding them separately.
Where to incorporate: Federally vs. your Province
I generally recommend that my clients incorporate federally and register provincially. In my experience, investors are generally more familiar with and overwhelmingly prefer to work with startups incorporated federally versus under the laws of any one particular province. Furthermore, federal incorporation allows you to conduct business and provides some basic protection for your business name in every jurisdiction across the country, not just in a particular province.
Yes, it is a little bit more time and maybe slightly more expensive upfront, (due to government filing fees) but the ongoing benefits of federal corporations will, in the long run, easily outweigh any extra time and cost.
Now – not everyone can incorporate federally. A business can’t be incorporated federally if there aren’t enough Canadian citizens or permanent residents on the board of directors (25%). As a lawyer located in a university-rich region, I see this often. The good news is that if you incorporate provincially, you can still become a federal corporation when your company eventually meets the residency requirements. There are even programs that can help entrepreneurs get their permanent resident status quicker, like the Start-Up Visa Program administered by Innovacorp in Nova Scotia.
Getting it right the first time
I’ve helped countless startup founders fix mistakes made while incorporating their business on their own or without advice from a well-versed startup lawyer. Structuring and incorporating your company appropriately in the first instance will save you time and money, both of which are scarce resources for startups. I highly suggest reaching out to an experienced startup lawyer like me to set you up with the proper foundation to build your company.
Many Business Accelerators and Incubators (BAIs) have resources available to founders looking to get more information about non-dilutive funding programs. Volta, for example, recently created a Startup Services Coordinator position (held by the knowledgeable Dan Oshodin) to advise startups on a variety of matters, including accessing funding.
Up in my next post, I’ll go over shareholder agreements and why you’ll want to straighten that away up front.
Potential funding programs
Scientific Research and Experimental Development Tax Incentive Program: https://www.canada.ca/en/revenue-agency/services/scientific-research-experimental-development-tax-incentive-program.html
Sustainable Development Technology Canada Clean Fund: https://www.sdtc.ca/en/
Natural Sciences and Engineering Research Council: https://www.nserc-crsng.gc.ca/Business-Entreprise/How-Comment/index_eng.asp
National Research Council of Canada Industrial Research Assistance Program: https://nrc.canada.ca/en/support-technology-innovation/financial-support-technology-innovation-through-nrc-irap
This blog post was written by Robert Cowan, Partner at McInnes Cooper. With over 25 years of experience, Robert Cowan is legal counsel to many startups and scaleups across multiple sectors, including information technology, ocean technology, cleantech, and life sciences.
As an active player in the Atlantic Canadian startup ecosystem, Robert sits on the board for Propel, an accelerator for technology startups. He is also a board member for the Canadian Technology Law Association, a national forum for practitioners focusing on technology law and related fields of e-commerce and intellectual property. In 2021, Robert was recognized by The Best Lawyers™ in Canada (2022) as Lawyer of the Year for Information Technology Law.
Volta has received express authorization from Robert Cowan and McInnes Cooper to re-publish this article. You can read the original article here.Tags: incorporation, law, legal advice, mcinness cooper, startup, startup law, tech