Following a few key steps when incorporating an existing business avoids problems later that are difficult and expensive to correct. Let’s explore some of the most important procedures through this article.
These procedures for incorporating are related to the fact that corporations are distinct legal entities, which are separate from their individual creators. Your corporation is a new entity that is succeeding you as proprietor in operating your business.
Selecting the right start date is the most important feature of creating a corporation. You don’t want to start in the middle of a month and probably not in the middle of a calendar quarter if you have employees. That’s because your staff are no longer your employees—they are going to work for the corporation. As soon as this happens, your proprietorship files its final payroll tax reports. The new corporation begins paying workers and filing payroll reports for the same individuals that you formerly employed.
This is why the corporation needs an employer identification number for itself. Even if you have no employees, the corporation must obtain this as its tax identification number. A proprietor without employees may use his Social Security number as tax identification. But corporations need their own numbers. A corporation usually has at least one employee anyway because someone has to operate the business. Even if you are the only worker, you are an employee. That’s right—you are giving up your business as a proprietor in order to accept employment as an officer of the corporation that you own.
The corporation needs a bank account. It cannot use the bank account of your proprietorship because that entity doesn’t exist any more. The business has been taken over by the corporation. When you transfer money from your old proprietorship bank account to the corporation’s account, you are providing shareholder capital or a shareholder loan to the corporation.
In addition, the corporation is probably using other assets that were used by you as a proprietor to operate the business. Do you plan to continue owning those assets yourself? If so, you can rent them to the corporation. But you must charge a fair market price and declare the rental income on your personal income tax return. Maybe you should just sell the assets used in business to the corporation. You can take a promissory note from the corporation for future payment.
Remember that business assets have a tax basis. You’ll want to know that basis before conveying assets to the corporation. You may have a taxable capital gain on your personal tax return from selling the assets for more than your basis. You can’t sell the assets for more than fair market value. Trying to extract money from a corporation you own in order to avoid payroll taxes is a tax avoidance scheme. You can’t do it. You must be an employee of the corporation to take money from it. The only exception is when the corporation owes you for conveying cash and property at fair market value. However, shareholders of S corporations are entitled to distributions—within some specific tax guidelines.
Get advice from your accountant before finalizing the start of the corporation. You will need an entirely new bookkeeping system for the corporation. The steps to incorporating an existing business are related to separation of the operation from ownership and control by a proprietor to ownership and operation by a corporation. Your control exists over the corporation as an officer, director, and shareholder.