I Want to Start a Small Business, should I Register a Sole Proprietorship or Corporation?

One of the most common dilemmas of aspiring entrepreneurs when starting their small business is choosing the best form of company they should register. In the Philippines, the two most common forms or types of business are sole proprietorship and corporation. There are also partnerships that are formed but they are not as many as the proprietary and corporate businesses.

If I were to start my own small business, I will choose to form either a proprietorship or a corporation. My own reason is that registering a partnership will also require processing and compliance with the Securities and Exchange Commission (SEC) just like a corporation. Hence, in may case, I will prefer a corporation rather than a partnership since the first is more formal and attractive to clients than the latter. Of course there could be exemptions to that, like for example if your small business needs partners and they choose to form a partnership rather than a corporation.

Now, with two options left, what’s the best form of company should we register, a sole proprietorship or a corporation?

Filipino entrepreneurs and business people are coming to me asking that question. That is why I’m writing this post to share my own views and ideas regarding that matter.

If you want to start a small business and you are choosing between a sole proprietorship and a corporation, you have to consider the following major factors:

Ease and cost of formation

The major advantage of forming a proprietorship than a corporation is that the first is easier and faster to set up. Unlike a corporation, a proprietary business is not registered with the SEC. You don’t need to all do the steps of incorporation, such as making articles of incorporation and by laws, depositing your paid-up capital in the bank, paying documentary stamp tax with the BIR, and other legal processes of incorporating a business, which may require you to hire a lawyer, accountant or a professional who knows those processes.

Proprietorship businesses just need to register their trade name with the DTI rather than SEC. After that, they can already proceed with the usual business registration at the Mayor’s Office, BIR and other applicable agencies. DTI registration is too easy compare with SEC registration.

But how about the cost? When it comes to the cost of setup between a corporation and a sole proprietorship, the difference lies on the cost of processing and the documentary tax you have to pay based on your corporation’s subscribed shares of stock. When it comes to the amount of initial capital, a corporation can be registered with a paid-up capital as low as P5,000 – so the initial capital is not that big issue. What makes it expensive is the professional fee you might pay to the professional who will process your incorporation. In the Philippines, professionals may charge you a minimum of P10,000 (excluding reimbursable expenses, such as transportation, travel, notarial fees, and others) for processing your incorporation with the SEC.

Ease and cost of compliance

Corporations are not only more difficult to register than a proprietary company, but it is also harder to comply than the latter. Corporations have to comply with SEC’s regular requirements, such as submitting annual audited financial statements and GIS. Some types of corporations like lending and financing companies are also required to submit quarterly reportorial requirements. Furthermore, there are also regular requirements that should be complied by a corporation, such as the preparation of board resolutions when making transactions in behalf of the corporation.

Because of the regular requirements that must be complied by a corporation, its owners have to hire someone to do those tasks for them, and it means additional cost.

Tax concern and the legal personality of the business

A sole proprietorship shares the same legal personality with its proprietor. If you own a proprietary business, it also uses your personal Taxpayer’s Identification Number (TIN) and is reflected in your personal income tax (ITR) return as a self-employed taxpayer.

On the other hand, a corporation has a separate and distinct legal personality from its owners. It is also considered as a separate taxpayer and have its own TIN. In other words, its ITR and other BIR returns are filed separately from its owners or shareholders.

What I like in a corporation is the fact that you can be a pure employee in your own company since it is a separate entity and can become your employer. In a proprietorship, you are always the employer since you and your business is the same entity.

When it comes to “who can save more income taxes”, it depends on the size, revenue, income, and the type of the business. In general, the income tax rate of domestic corporations are at flat rate of 30% based on its net taxable income from all sources. On the other hand, single proprietorship businesses, which are considered the same with individual taxpayers, use the graduated tax rate ranging from 5% to “P125,000 + 32% of the Excess over P500,000” based on the amount of taxable net income. So it depends on the taxable net income of the business to determine which form of company can save you more taxes. Moreover, a proprietor can claim his basic and additional exemptions which can further reduce his income tax from his proprietorship business.

Appeal to investors and customers

When it comes to “which is more attractive” to investors and customers who want to do business with you, I believe that the corporation is more appealing. I also personally feel that owning a corporation is more impressive than owning a single proprietorship business. But of course when it comes to customers, I believe that what will still matters most is the quality of your business rather than the form of your business.

Liability and continuity

A corporation has a limited liability, which means its creditors cannot run after the personal assets of its owners or shareholders when the corporation’s assets are already exhausted from paying its liabilities. On the other other hand, creditors can run after the personal assets of a proprietorship since the proprietor and the proprietorship are one and the same entity.

Another advantage of the corporation over a sole proprietorship is its continuity and transferability. Corporations can exist continuously even after the death of its owners. Its ownership can also be transferred to other people or entities through assignment of shares of stocks or ownership. On the other hand, the life of a proprietorship goes with its owner or the sole proprietor – when the proprietor dies, the company also ceases to exist.

My personal choice

Your choice of the form of business depends on the factors above. In my case, if ever I’ll register my own small business, I will register it as a corporation. I personally like a corporation. It sounds cool. I’d like to become an employee of my own company as a president or a CEO. 🙂 Registering a small and ordinary corporation can also be started with a small amount of paid-up capital. Let us say I can put P50,000 as a paid-up capital which should be at least 25% of the subscribed capital, and the subscribed capital should also be at least 25% of the authorized capital stocks.

The main reason why I will choose a corporation is because I’m a seasoned accountant and I’m already familiar with the process of incorporation, compliance and other corporate requirements. In other words, I don’t need to hire anyone to process and handle all the requirements of my small corporation. It also means that I may not need to spend money to hire a corporate lawyer, accountant or a bookkeeper to do the incorporation and compliance for my business.

Another reason is that the process of transforming a sole proprietorship in to a corporation can be a tedious task since you need to do all the processes of formal closure and cancellation of the registration of your proprietorship with the government agencies where you have registered it, such as the Mayor’s Office and the BIR. Take note that closing your business with the BIR is not easy and quick since your business will be audited to ensure that it has no outstanding tax liabilities before they give you a clearance or certificate of business cessation. Of course you can speed up your business closure with the BIR if you’re paying the right taxes and you’re keeping clean and complete records.

So that is my personal choice. But if you can’t afford to hire a professional to help you in establishing, registering and complying the requirements of a corporation with the SEC, and if you’re not familiar in handling a corporation, then maybe a sole proprietorship is the better choice for you. Just pay the right taxes, be in compliant with the BIR, and keep complete records so that when you transform it in to a corporation in the future, you will not have any problem in getting a clearance from them.