We are nearing the end of 2018; so many of our tax laws affected by the Tax Reform for Acceleration and Inclusion (TRAIN) Law have changed. The reforms, however, are not yet over. We are seeing steady developments in the proposed amendment to the Corporation Code of the Philippines. Both the Senate and the House of Representatives have passed on the third and final reading their own versions of bills amending the Corporation Code. As of the date of this publication, the bicameral conference committee session is to reconcile the House and Senate versions.
One of the significant provisions in both versions is the inclusion of a new chapter on Special Corporations — Corporations. The one-person corporation (OPC) provisions in both the Senate and House versions are very similar; there is a high likelihood that these will be carried in the final version.
Under the current Corporation Code, there should be at least five stockholders to register a corporation with the Securities and Exchange Commission (SEC). With the proposed provision on OPC, however, the Code will allow a single person, whether natural or juridical, to form a corporation. This would be a welcome development for entrepreneurs who do not wish to share their business with others, but would like to avail of the benefits of being a corporate entity.
Currently, a solo entrepreneur’s only option for a business structure is to register as a sole proprietorship. In a sole proprietorship, the business and the owner are treated as one and the same. Hence, any liability of the business is also a personal liability of the owner. This means that creditors can run after the personal assets of the owner to settle the obligations of the business. A corporation, on the other hand, is considered a separate legal entity, and its liabilities are limited to the amount of stockholder investment. It may seem that setting up an OPC is more advantageous than setting up a sole proprietorship, if we consider the limited liability of a corporation.
Before diving into an OPC, though, we also have to consider the different tax implications and administrative requirements of a sole proprietorship vis-à-vis an OPC.
A sole proprietorship is considered an individual for taxation purposes. With the TRAIN law, individuals can avail of the 8% special tax rate in lieu of graduated income tax rates and percentage tax, provided that the gross sales or receipts for the year do not exceed the value-added tax threshold of P3,000,000. This option is usually best for first-time entrepreneurs with minimal expenses, since the taxation is simplified. If the expenses of the business are high, however, opting to pay under the regular rate of 0 to 35% may result in a lower income tax payable. There is even a P250,000 exempt bracket under the graduated rates.
A corporation, on the other hand, is subject to a fixed corporate income tax rate of 30%, which is 5% lower than the maximum income tax rate that may be imposed on an individual. In case the business avails of the 40% optional standard deduction (OSD), the 40% OSD for an individual is based on their gross sales or receipts. For a corporation, though, the 40% OSD is based on its gross income. This means that, if the business has high direct costs, a corporation has the advantage of being able to deduct its cost of sales or service in full; for individuals, the OSD comes in lieu of all their deductions.
While the corporate income tax is lower than the top rate for individuals, the earnings remaining after the corporate income tax is still taxed at 10% when distributed to the individual shareholder. It is not yet clear if the same kind of “double taxation” will also be applied to OPCs, i.e., whether the profits after tax of the OPC will also be taxed when the owner takes the profits out of the corporation.
In terms of administration, a sole proprietorship is the easiest and cheapest form of business to register. It does not have to be registered with the SEC compared to an OPC. Since an OPC is regulated by the SEC, it is understandably more difficult to register and would require extra costs, considering the additional reportorial requirements. Some of the reportorial requirements that are not applicable to sole proprietors include the filing of articles of incorporation and annual audited financial statements (AFS). However, if the total assets or total liabilities of the corporation are less than P600,000 (per Senate version) or P3,000,000 (per House version), auditing the financial statements is not required; but the financial statements must be certified under oath by the corporation’s treasurer and president. Further, the OPC will be governed by the Corporation Code of the Philippines, which means it would need to adhere to certain formalities. These include appointing corporate officers including a Corporate Secretary and maintaining a minutes book for any corporate act of the OPC.
We also have to consider that a corporation has perpetual existence, which means that a corporation shall continue to exist despite the death or incapacity of the owner. For a sole proprietorship, however, the death of the owner is equivalent to the death of the business which means that, if the legal heirs should wish to continue the business, all the assets of the business would have to be transferred under the name of the new owner first, and all existing contracts or agreements of the business would have to be amended.
As a vehicle for doing business, an OPC is not necessarily unfavorable or more advantageous compared to a sole proprietorship. The best business structure would still depend on the needs and goals of the company.
We have long been hearing about the concept of single-shareholder corporations in other countries. With the addition of the OPC to the business structure options available to entrepreneurs, we hope this can help us keep up with global competitiveness and encourage entrepreneurs to open up more businesses.
Juvy H. de Jesus is a manager of the Tax Advisory and Compliance of P&A GrantThornton. P&A Grant Thornton is one of the leading audit, tax, advisory, and outsourcing service firm in the Philippines.