1. Introduction
When starting an entity in Quebec, choosing its legal structure is crucial, as each comes with distinct obligations. This decision is especially important because businesses can only adopt one structure - for example, it cannot be a general partnership and corporation at the same time.
This blog post will discuss four key legal structures in Quebec that startup founders should be aware of: (i) sole proprietorships; (ii) partnerships; (iii) corporations; and (iv) non-profit organizations.
2. Sole Proprietorships
A sole proprietorship is a structure in which a single individual owns and operates the business, thus assuming all responsibility of its obligations and liabilities. Self-employed individuals are generally considered as sole proprietors. This structure is comparably inexpensive to set up and requires minimal legal formalities. For example, if an individual is operating the business under their full legal name, they do not need to register with the Québec Registraire des entreprises. However, individuals should consult a lawyer to ensure compliance with all applicable licensing and registration requirements.
Sole proprietorships are well-suited for small businesses because the owner can retain all of the profits, but also bears all the risks. Unlike corporations, sole proprietors are personally liable for business debts, which means that their personal assets are at risk if their business owes money. Moreover, in a sole proprietorship, tax planning is limited since business income is taxed as personal income, thus blurring the lines between business and personal finances. If a sole proprietor earns less than $30,000 in annual revenue, they do not need to register for GST and QST, and all profits will be included in an individual’s personal income tax return. Notably, a sole proprietorship cannot be incorporated, since it does not issue shares or have shareholders.
It is further important to consider that sole proprietors are not considered as employees of any of their clients. As a result, they are not entitled to certain employment benefits like paid sick leave, vacation pay, or group insurance. Furthermore, while they can hire employees - subject to compliance with the Act Respecting Labour Standards - they cannot enter into partnerships with other individuals to jointly operate the business.
Common examples of a sole proprietorship include freelance consulting, self-employed lawyers, freelance editors, and freelance photographers.
3. Partnerships
A partnership is a business structure where two or more people or corporations jointly operate a business for profit. In Canada, partnerships are governed by provincial legislation, and in Quebec, they are regulated under Articles 2186-2266 of the Civil Code of Quebec (CCQ). Here, each partner must contribute to the partnership through monetary investment, property, or a professional service. Partnerships are not required to undergo incorporation and do not issue shares.
There are four types of partnerships in Quebec: general partnerships, limited partnerships, limited liability partnerships, and undeclared partnerships.
3.1. General Partnerships:
In Québec, a general partnership (société en nom collectif or s.e.n.c.) is created when two or more people or corporations agree to run a business together, contributing resources and sharing profits. A general partnership is formed through a partnership agreement. When individuals in a general partnership sign any contracts, they must identify the partnership by its name, followed by the initials ‘s.e.n.c’. A general partnership must have a head office, a business name, and can sue or be sued. Partners distribute profits based on an agreed percentage in the terms of the partnership agreement.
A general partnership offers some tax advantages. Here, a partnership is not considered a separate legal entity for tax purposes, so profits and losses are divided among the partners, who report them individually on their personal tax returns. Partners can claim tax credits like the basic personal amount, such as the basic personal amount, and deduct business expenses, including travel and supplies, to reduce their taxable income.
However, partnerships also present some disadvantages. For instance, drafting a partnership agreement and registering a partnership can be a lengthy process. Moreover, each partner is personally liable for the partnership’s debts, even if they did not incur them directly. As such, partnerships often require liability insurance. Creditors must first claim against the partnership’s assets, and partners’ personal assets are only at risk once their own debts are settled.
The legal framework governing general partnerships in Quebec is set out in articles 2198 to 2235 of the CCQ.
3.1.2. Limited and Limited Liability Partnerships:
A limited partnership (société en commandite) is a form of a general partnership where one or more general partners have full authority to manage the business and bind the partnership, while limited partners contribute capital but do not participate in management. General partners manage the partnership’s affairs and assume unlimited liability towards any creditors for the partnership’s debts and obligations. Additionally, general partners must provide an account of their administration to limited partners. On the other hand, the liability of limited partners is limited only to the amount of capital that they have contributed/invested into the partnership. It is important here to note that limited partners cannot participate in management of the partnership - doing so would risk their limited liability.
Limited liability partnerships (LLPs) are available in Quebec, but only for professionals like lawyers, accountants, and doctors. Governed by provincial laws, LLPs offer enhanced liability protection by limiting each partner’s liability to their own actions, rather than exposing all partners’ personal assets to the partnership’s debts.
The advantages and disadvantages of general partnerships generally apply to limited partnerships as well. Limited partnerships are governed by Articles 2236–2249 of the Civil Code of Québec, while limited liability partnerships are regulated under Articles 2250–2264.
3.2. Undeclared Partnerships
Québec also recognizes undeclared partnerships, which are informal agreements - verbal or written - between two or more individuals to operate a joint venture without formal registration. These partnerships are typically temporary and commonly used for specific projects, such as artistic or musical collaborations. The tax treatment for general partnerships and their partners also applies to undeclared partnerships. Undeclared partnerships are governed by Articles 2188 to 2197 of the Civil Code of Québec (CCQ).
4. Corporations
A corporation/company is a legal entity that operates a business for profit. Unlike sole proprietorships and partnerships, a corporation can issue shares to shareholders and is governed by a board of directors, functioning within a corporate governance framework.
Corporations are distinct from other legal structures because of their ‘corporate veil.’ That is, a corporation is considered a separate legal person, independent of its directors and shareholders. As a result, its creditors do not have direct claims against the personal assets of its shareholders or directors.
To become legally recognized, a corporation must undergo incorporation either at the federal or provincial level. A corporation incorporating federally must register with Corporations Canada, governed under the Canada BusinessCorporations Act (CBCA),while those opting for provincial incorporation in Quebec must register with the Registraire des entreprises du Québec, governed by the Québec Business Corporations Act (QBCA). Choosing between federal and provincial incorporation is an important decision for founders, becausethe CBCA and QBCA, while similar in some aspects, have key differences. For instance, incorporation costs vary between both jurisdictions. Additionally, corporations incorporated provincially in Quebec must have a legal name that complies with the Charter of the French Language, although they can also have anEnglish version of the French legal name. At the federal level, at least 25% of the company’sdirectors must be Canadian,whereas Quebec imposes noresidency requirement for provincially incorporated businesses.
When a company is incorporated, it can issue shares. Here, it is important to note thatshareholders are not usually personally liable for thecorporation’s debt. In Canada, a corporation consists of officers, directors, and shareholders. In small corporations, the same individual might act asall three (officer, director, and shareholder). However, this is rare for large, publicly traded corporations. Officers generally handle the company’s daily operations, directors manage the corporation and appoint officers, and shareholders elect the directors. Directors have certain liabilities, but they can get insurance for protection.
5. Non-profit organizations
Non-profit organizations (NPOs) inQuebec are created for purposes other than generating profits for their members. They constitute a group of individuals who pursue amoral or altruistic goal, and who do not intend to share financial gains among the members. NPOs engage in non-profit activities across various sectors, including cultural, social, philanthropic, national, patriotic, religious, charitable, scientific, artistic, professional, athletic, sporting, and the educational fields. Although NPOs can generate income, all generated fundsmust be used to further the organization’s purpose rather than to remunerate its members. The legislation governing an NPO depends on its level of incorporation. Federally incorporated NPOs are governed by the Canada Not-for-profit Corporations Act,while provincial NPOs in Quebec are governed by the Companies Act.
An NPO is governed by a board ofdirectors, responsible for overseeing its direction, risk management and policy-making. Although non-profit organizations are exempt from income tax, they must still meet certain obligations, such as (i) filing income tax and returns appropriate to their situation; (ii) paying salaries, wages, and other forms of remuneration to individuals must meet the same fiscal obligations as other employers in Quebec; and (iii) maintaining records and documents that support the calculation of all amounts that must be deducted, withheld, collected, or paid under a tax law. Holding onto assets such as shares or dividends could threaten a NPO’s tax-exempt status. Unlike for-profit businesses, profit sharing and equity sharing does not align with the fundamental nature of NPOs in Quebec.