In Canada, the most common form of business organization is the corporation. A corporation is a legal entity separate in law from its shareholders; this means that it can, among other things, carry on business, own property, possess rights, enter into contracts, and incur liabilities. This also means that a shareholder can be an employee or and a creditor of a corporation.
Shareholders, Directors, and Officers
A shareholder own shares of the corporation, but not its assets and liabilities. A shareholder’s liability is “limited” because, should the corporation’s liabilities become greater than its assets, the creditors of the corporation cannot claim the balance owed from the shareholder. The shareholder will, at most, lose only the value of the assets, property, or services transferred to the corporation in exchange for the shares. (However, in a small business, lenders often insist on receiving guarantees from a shareholder over and above any guarantee from the corporation, particularly if the corporation has few assets of its own. In such instances, the shareholder loses his or her limited liability regarding those debts.)
Shareholders do not manage the corporation, but they have the power to elect, or remove the board of directors. It is the board of directors who manages the affairs of the corporation and delegates powers to the officers such as the president or CEO. Although these roles are legally distinct, they may be filled by the same people; in fact, in many small corporations, a single person is the sole shareholder, sole director, and the sole officer.
Shareholders are entitled to receive information to help them know whether management is performing its duties. They have the power to remove directors who are acting contrary to their interests. They are protected by the law, which imposes upon directors fiduciary duties to act in the best interests of the corporation and to take reasonable care in performing their responsibilities. They are given certain legal remedies: They may use a “derivative action” remedy, which permits a shareholder or other “complainant” to advance an action on behalf of the corporation if the corporation refuses to do so itself. Minority shareholders may also use the oppression remedy to obtain relief if management or the majority of the shareholders have caused the corporation to act in a manner that is unfair or oppressive to their interests.
Taxation of a Corporation
Since a corporation is a separate legal entity, its income is determined and subject to tax separate from that of its shareholders. If any of the corporation’s after-tax income is paid to its shareholders through a declared dividend, those dividends constitute income to shareholders, and this income is subject to tax and a gross-up calculation. In certain circumstances, dividends received by corporate shareholders can be received tax-free through an inter-corporate dividend.