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Why you should incorporate (as a contractor)

jennrmillerdev profile image Jen Miller Updated on ・3 min read

Hi folks!
In my last article, I wrote about the common types of IT contracts you might come across if you decide to become a contractor.

In today's article, I want to address a very popular question asked by developers as they start their contracting journey. There are lots of articles discussing the accounting and tax benefits of incorporating, but not so much in regards to the 'developer' aspect of such a decision.

Better Opportunity for Enterprise Clients

Many 'enterprise' organizations and agencies require IT contractors to be incorporated and will not consider any non-incorporated candidate (regardless of skill or experience). Businesses do this for a number of legal and tax reasons.

Many people feel this is an unfair practice to those who do not want to go through the costly process of incorporation. So I wanted to explain one of the main reasons why organizations require incorporation.

In some countries/states, the onus is the business to prove the 'contractor' status if a contractor claims employee status against the business. In the IT world, where projects are staffed by a blend of contractors and employees, this distinction can be difficult.

The naive argument were one can simply justify contractor status based on the wording of the contract is incorrect. Today, many tax organizations (IRS, CRA), instead, look closely on how the 'contractor' is being used and the true relationship between them - rather than the actual use of the word (‘contractor’) in the contract itself.

Because of this, organizations want a clear business-to-business (B2B) relationship between itself and contractors. In the eyes of the tax-man, a corp-to-corp contract solidifies the B2B relationship(from the organization’s point of view), better than if it were to enter into a contract with an individual person.

Hence, by incorporating your business, you will have access to many new enterprise clients (whom will probably be your most lucrative). That being said, many organizations will still interview non-incorporated candidates and provide a short time window for a non-incorporated person to seek incorporation if they are hired.

Fringe Benefits

Developers can use their corporation for business related purchases such as conferences, office supplies, and training etc. Having a business opens the possibility of having access to a network of B2B suppliers, better customer service, and wholesale prices. Many of these B2B vendors require proof of business activity in order to deal with them. Having a corporation significantly reduces this proof burden.

Liability Concerns

Generally speaking, as an employee, you are shielded from any personal liability for honest errors you might make, but as a business, you can be liable for these bugs and the potential costs incurred by them.

Incorporating your business can provide some protection of your personal assets (your house, car, etc). Keep in mind, it's not a total shield, as you are still (in most cases) acting as a director of the corporation - whom may personally responsible for certain liabilities of the corporation.

Are you a contractor and did you decide to incorporate? What made you do so and was it a good decision? I would love to hear your feedback. Comment below or follow me at @JennrmillerDev on Twitter or if you would like to read more, also consider following @CanosieLabs.

On my next article, I will share more about expectations as a contractor and how it differs from being an employee.

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jennrmillerdev profile

Jen Miller

@jennrmillerdev

A J2EE developer with an interest in web-technologies. Enjoys writing technical articles for @canosielabs

Discussion

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I started contracting 11 months ago.
Just renewed my 12 month contract for another year.

I signed up with an accountancy company that assigns out an umbrella company to you.

You are the only employee in the company, but you don't pay the cost of incorporation. And you get lots of the tax benefits.

This is in Ireland. I'm not sure if other countries have this same setup.

I would only create my own company if I wanted to expense more items like conference trips, cars, etc as I am limited with what I can do with the umbrella company.

 

Thanks for sharing and congrats on your contract renewal. 👍

Do you get to 'control' the umbrella company if you leave the accountancy? Seems like the accountancy owns it.

I've also never heard of this kind of setup before...some agencies sort of work like that when you're a employee of a agency but never heard where a individual umbrella corp is created just for you. It sounds like it takes off much of the burden for incorporating but still allows access to the orgs that only want to deal with incorporated contractors!

 

Do you get to 'control' the umbrella company if you leave the accountancy?

The accountancy firm owns & controls a bunch of umbrella companies.
When I leave I no longer have control of the company.

It sounds like it takes off much of the burden for incorporating but still allows access to the orgs that only want to deal with incorporated contractors!

I work with a large multi-national fin-tech company, they will only sign a contract with a limited liability company, and not a person directly.

The accountancy firm deals with all things tax-related, and sort out even my personal taxes from things like Airbnb.

It's a pretty sweet deal as they often find ways of saving money that I didn't know about.

 

Interesting! I can see how that kind of setup might be an advantage. I bet the accountancy firm can handle the paper pretty easily for you too.

In Canada, you don't see that kind of relationship. There's no LLC in Canada either, so it's either stay as a sole proprietor or full blown incorporation. Either way, you can still expense out business related purchases.

That being said, they are really hammering down on the one-man corporations in Canada with stiff penalties to anyone who the government catches is doing 'employee' type work as a contractor....

I actually worked as a non-incorporated contractor for many years before incorporating. I incorporated when I started to get tired of being rejected by fintech organizations simply b/c I wasn't incorporated.

I did the incorporation myself, and it turns out it wasn't as difficult as the Canadian lawyer and accounting firms say it is....but I do get an accountant to complete my corporate taxes and required financial documents.

 

I bet the accountancy firm can handle the paper pretty easily for you too.

They do indeed! They handle everything and bug me for the information they need for Revenue.
They also bug me when I am not expensing enough stuff or taking advantage of tax saver schemes, which is pretty sweet.

There's no LLC in Canada either

The umbrella companies at my accountancy firm are all LLC's.
Large corporations seem to want that limited liability in case there are any issues during the contract.

'employee' type work as a contractor...

What's the problem with this kind of relationship?
I understand for low paid workers it sucks as companies can take advantage of employees by not giving benefits, but for higher paid work the contractor is in the driving seat.
Is the government cracking down on contracting for the benefit of contractors or some other reason?

Where I work you can't really tell the difference between employees and contractors.
The main thing that employees get that contractors don't seem to be:

  • Pension contributions
  • Paid holidays & sick leave
  • Job security
  • Learning resources & time
  • Mentorship
  • Career guidance
  • Sports and social membership
  • Going on-call
  • Weekend work

I did the incorporation myself

Incorporation is extremely easy in Ireland. My accountancy firm can actually do it for me if I want access to more tax breaks, but that seems like something that would make sense if you were on a very high rate of income.

Is the government cracking down on contracting for the benefit of contractors or some other reason?

You are correct!

It has to do with the government's bottom line more then anything. For years, the Cdn govt has been irked that one-man corporations were using the tax benefits for businesses, but they were really one-man corporations doing employee like work. For example, expensing business related purchases, tax breaks for small-businesses, etc

Basically, since most IT contractors do very similar work to their employee counter parts (not inc freelancers, they are OK), the government wants to tax them as employees. They've been picking on IT contractors since we're one of the largest groups of one-man corporations.

There are still advantages to incorporating, but us in Canada just have to keep track if we look too much like a employee. If we get caught, they apply pretty stiff penalties.

I actually look similar to my employee teammates where I work. I do weekend work too (but get paid for it at my hourly rate). B/c of my seniority on the team, I am expected to give coaching and mentoring (but I don't receive it) to juniors, but I too can bill that at a hourly rate (formal mentoring that is, I don't bill for watercooler talk :) )

 

I thought about it, but contracting just isn't for me. I was definitely looking at incorporating according to whatever my tax attorney suggested. My anchor client ghosted me and I took that as a sign I am not yet ready to contract.

 

hey Scott,
Sorry to hear what happened. Losing existing clients definitely sucks (especially if you had a longer working relationship with them). On the other hand, it could also allow you to seek out different opportunities. What aspect of contracting makes you feel you are not ready?

 

More than anything else, it came down to finances. Running off on my own was sort of an impulsive decision after getting very dissatisfied and disillusioned with the practices of another firm I was working for; I wanted to do honest work and be able to pursue my responsibilities without constantly being micromanaged. I didn't have many savings built up, so I had nothing to carry me through until I found more clients. I also didn't have a portfolio published, kept finding better things to do besides make my website, spent very little time networking, and overall just didn't take things as seriously as I needed to.

If/when I get my finances together and have some money saved up, I'd love to try it again. I need to improve my focus (might be time to go back on ADD meds) and would probably want the guidance of a mentor before I attempted the process again.

Health is really important! Hope you get to try it again, Freelancing/contracting comes with a whole new set of challenges, but it might be worth it.

For me, I got tired of the unpaid overtime nonsense and started to feel used. I understand that deployments sometimes must happen on weekends to reduce business impact, but years of weekend work started to wear on me. I also felt I was dependent on my employer to provide a career path, but it didn't match what I wanted to do. So I decided to become a contractor, but I stayed at the my employer, just converted over to a contractor.