Incorporating Subsidiaries In Canada And The U.S.: Key Considerations

Many clients and businesses located outside of North America look to Canada and the U.S. to incorporate subsidiaries for a number of reasons, such as expanding the business into the North American market, tax efficiency, ease of carrying on business, the establishment of a joint venture or to form a specific purchasing vehicle for an acquisition in a new jurisdiction. Whatever the reason, there are certain considerations and administrative steps that clients should keep in mind when incorporating or forming entities in either Canada or the United States.

Considerations

Type of company

Canada and the U.S. have different types of corporations that a business should consider before formation.

• In Canada, the most common entities that are formed are:
  • Corporations, which are incorporated under one of the federal, provincial or territorial business corporations acts. Corporations are governed by the applicable legislation and constating documents, which are typically articles or by-laws (or equivalents). Corporations are the most commonly used type of incorporated entity.
  • Partnerships, which are formed when there are two or more persons carrying on a business with a view to a profit. Partnerships are governed by the laws of the jurisdiction they are formed in and the partnership agreement, which is the main constating document for partnerships. Unlike corporations, in Canada a partnership is not recognized as a separate legal person.
  • Limited partnerships, which are formed and governed under one of the provincial or territorial limited partnership acts. These entities are usually formed when there will be a number of limited partners investing into the entity (for example, for fund-related opportunities with multiple investors) or to obtain flow-through tax treatment that is not otherwise available with corporations. Limited partnerships also require a general partner, who manages the business of the limited partnership and has unlimited liability.
  • Joint ventures, which are commercial collaborations between two or more independent entities and can be formed for a continuing business or a new project. Joint ventures can be incorporated or unincorporated.
• You can incorporate similar entities in the U.S., but with a few caveats:
  • Similar to Canada, corporations can be incorporated under the business corporations acts of each state. Corporations can be S-corps or C-corps, which affects the way that the corporation will be taxed.
  • Limited liability companies (LLCs) are a form of corporate entity that does not exist in Canada and which provide much more flexibility in terms of how they can be structured (through an LLC agreement that sets out its governance terms and tax elections). An LLC can be structured either as a taxable entity or as a flow-through entity, which can provide some attributes similar to a Canadian limited partnership.

Constating documents

Each entity formed will have certain constating documents accompanying its incorporation. Some of these constating documents are required; others, although not necessary, should be considered based on the nature of the transaction or purpose behind the incorporation. Although non-exhaustive, below is a list of some of these formation documents:

• Articles. These are the most basic constating documents for a corporation, setting out the foundational information of the entity such as the corporate address, the number and names of the initial directors, and certain rights and restrictions regarding shares. The Articles get filed with the appropriate registry and are considered the main documents that crystallize the incorporation of the entity (some jurisdictions refer to Articles as "Notice of Articles").
• Bylaws. The Bylaws set out general governance matters such as the process behind director meetings and voting, the powers of the corporation, distributions and pidends, and director and officer indemnification (some jurisdictions refer to these as Articles).
• Partnership Agreement. This is the standard document for a partnership that sets out the relationship between the members of the partnership.
• Limited Partnership Agreement. Similar to a Partnership Agreement, this is the standard document for a limited partnership that sets out the relationship between the partners (both the limited partners and the general partner) of the limited partnership, including items such as setting out the right, processes and limitations on how the limited partnership is to be operated.
• Shareholders Agreement. Although not necessary, a Shareholders Agreement adds additional governance and limitations to the underlying entity with respect to the actions or inactions its shareholders may take, such as stipulating that certain corporate decisions require majority or unanimous shareholder approval or offering protections to shareholders in the event of share transfers (such as rights of first refusal or offer, tag along and drag along rights). In most Canadian jurisdictions a unanimous Shareholders Agreement can override provisions in the applicable corporate legislation.

Jurisdiction of formation

Depending on the nature of the business of the entity being formed—either at the time of formation or down the line—clients will want to consider the jurisdiction that the entity is formed in, as that will dictate which corporate statute will apply.

• In Canada, entities can be formed federally, provincially or territorially. Each jurisdiction has certain statutory requirements and restrictions that will apply to entities formed under them. A few high-level questions to consider when determining the jurisdiction are:
  • Will there be directors residing in Canada? If not, then forming under a jurisdiction that does not have a director residency requirement (such as British Columbia, Alberta, Ontario or Québec) may be preferable.
  • What kind of flexibility will you need for calling corporate/shareholder meetings?
  • What will the scope of the business be? Will it operate only in one province or territory, or across Canada? Are there any components to the business that may require extra-provincial registrations (i.e., expanding the business to other provinces/territories outside the jurisdiction of formation)?
  • Will any license or regulatory requirements apply to the business?
• In the U.S., the most common state of jurisdiction is Delaware, due to its well-established jurisprudence relating to corporate matters, common use and flexibility. An entity may be formed under a different state if there are specific state licence or tax requirements or its primary business is in a specific state and expansion is not anticipated.

Other considerations

• The Investment Canada Act requires any non-Canadian investor to file a notification form within 30 days of acquiring control of or establishing a Canadian business. In certain circumstances advance review of the investment is required.
• Employer Identification Numbers (EINs) are required by the IRS for companies in the U.S. who will have employees, operate as corporations or partnership, file tax returns, or withhold taxes. The application process is straightforward but requires certain information regarding the business and the current/future employee status.
• The size and scope of the bank and accountants needed for the purpose of the formed entity should be considered. Factors including the nature and scope of the business, the jurisdiction and expected revenue will dictate which bank and accounting firm should be engaged.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.