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Frequently Asked Questions about
Business Organizations
- Question:
What is the difference between a C Corporation and an S
Corporation?
Answer:
All corporations begin their lives as a C corporation. The owners can elect to
become an S corporation by filing a form 2553. This new status allows the
owners to be taxed like a partnership or a sole proprietorship. The income of
the corporation "passes through" to the owners without the
corporation being taxed. Otherwise, a double taxation would exist whereby both
the owners and the corporation would be taxed. The S corporation does come with
additional limitations, though, namely a shareholder limit of 75 and U.S.
citizenship and residency requirement for shareholders.
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- Question:
What is the difference between an S Corporation and a Limited Liability
Company?
Answer:
They are very similar in how they are taxed; although an LLC will be more
heavily taxed when annual revenue exceeds $250,000, and then again at
$1,000,000. The LLC has no restrictions on how many shareholders (or in this
case, unitholders) it may have and who they may be. Some VISA holders, however,
may wish to speak with their immigration lawyer to be sure their interest in
the LLC is not viewed as self-petitioning. An S corporation is restricted to 75
shareholders, and they all must be U.S. citizens and residents. An LLC
typically requires less corporate maintenance than does an S Corporation.
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- Question:
Should I incorporate? My CPA told me I don't make enough yet.
Answer:
CPA's are not only invaluable "players" on any business
"team," but they are essential to a business's success. However,
it can be quite common for a CPA to advise his/her client that they do not need
to incorporate if their annual salary does not exceed a certain dollar amount.
After all, they are "numbers people" and hence, they can be quick to
look at your "bottom-line." But wait- what if the actual value of
your "bottom-line" is based more on varying perspectives, than
numbers? Let's look at it this way → how valuable are your personal
assets to you? Do you like your home? How about the money in your bank account?
Well, when you maintain corporate legal formalities, an inherent corporate
privilege that you benefit from is that of "limited liability."
Subsequently, it becomes extremely difficult for a party bringing a claim or
law suit against your business to get to you personally - to your personal
assets, to your home, to your bank account, etc. Alternatively, without the
limited liability provided by many corporate forms, everything can become
available for the taking. So, what is your "bottom-line?"
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- Question:
What is "piercing the corporate veil" or the "alter ego"
theory?
Answer:
In some cases, courts have allowed plaintiffs to pursue the assets of the
corporation's owners to satisfy a judgment against the corporation. This
defeats the personal liability protection that owners inherently benefit from
when the corporation has maintained its legal requirements. Some instances
whereby the courts may allow the plaintiff to pierce the defendant's
corporate veil include, fraud or intermingling of an owner's and corporate
funds, failure to maintain corporate legal requirements, practices where the
corporation can be no longer viewed as a separate entity but is rather serving
as the owner's "alter ego," and in some instances,
undercapitalization.
Sometimes, courts will allow plaintiffs to receive compensation from corporate
officers, directors, or shareholders for damages rather than limiting recovery
to corporate resources. This procedure avoids the usual corporate immunity for
organizational wrongdoing, and may be imposed in a variety of situations. The
specific criteria for piercing the corporate veil vary somewhat from state to
state and may include the following:
- If a business is indistinguishable from its owners in practical terms,
courts will not allow owners to benefit from limited liability.
Example: Fred's Sporting Goods and Fred share the same banking account.
Fred signs business contracts in his own name. Fred may be liable for breaching
a business contract because he and his company are legally indistinct.
- If a corporation is formed for fraudulent purposes, courts will allow
recourse to the owners.
- If a business fails to follow corporate formalities in areas such as
record-keeping and decision-making procedures, a court may impose liability on
the individuals controlling the business.
The potential for personal liability encourages businesses to observe legal
requirements and to avoid damage to third parties.
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- Question:
What is a "registered agent?"
Answer:
Virtually all states, including California, require business organizations to
have a registered agent in the state. The registered agent must have a physical
presence and address (no P.O. Boxes allowed) and must be available during
normal business hours.
The registered agent is responsible for receiving
important legal and tax documents on behalf of the business. Service of Process
(sometimes called notice of litigation), which is the document that initiates a
lawsuit, is served to the registered agent for a business. Proper handling of
and timely response to this document are vital, as not doing so can result in
significant adverse consequences to the business.
Failure to maintain a Registered Agent can result in loss of corporate or LLC
status. Equally important-if a responsible party is not available to receive
service of process, then your company could be unaware of a legal claim and a
judgment may be entered against you.
It is not a good idea for businesses to serve as their own Registered Agent.
Rather, the safest route is to select a reliable third party such as your
corporate legal counsel. Not only can your legal counsel keep you abreast of
situations needing attention, but they can additionally safe guard you at times
when recognizing faulty service of process and subsequently deny same. Many
business owners are not aware of what constitutes appropriate "service of
process" and may simply accept same as a result.
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- Question:
Do I need permission to conduct business in another state when I am already
incorporated in my own state?
Answer:
Yes. A foreign corporation wishing to do business in another state must
qualify to do so.
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- Question:
Is there a benefit to incorporating in Delaware or Nevada?
Answer:
Some will still say yes, but generally, the answer is no. There used to be
significant reasons for a business to incorporate in Delaware or Nevada, but
those reasons have disappeared with changes in state laws. Many still find
Delaware and Nevada to be "friendly" corporate states and are
attracted to not having to pay state tax. However, if your purpose for
incorporating in Delaware or Nevada is to avoid state tax, but you still intend
to do business in your own state, you will ultimately have to file for
"foreign corporate' status and will wind up paying your state's
tax anyway. It is now typically best for a company to incorporate in its own
state.
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- Question:
What is a non-profit corporation?
Answer:
A non-profit corporation is a corporation that is carried out for a
charitable, educational, religious, literary or scientific purpose. A
non-profit corporation does not pay either state or federal taxes because the
government deems the corporation's actions to be for the betterment of
society.
>>Top- Question:
What types of legal procedures should corporations maintain?
Answer:
Most people approach a new business opportunity with great enthusiasm. While
this enthusiasm provides much of the needed fuel to help a new business get
started, businesspeople must arm themselves with important legal information
that will guide their most basic decisions. The form a business organization
selects creates specific legal consequences for matters as diverse as taxes,
insurance, and management. Once formed, the business faces challenges in its
relationships with shareholders, creditors, employees, and other businesses,
and the directors must ensure that it retains its legal status. Depending on
the business form, certain legal formalities must be followed. These
obligations include:
- Obtaining federal and state tax identification numbers for the business and
filing needed tax returns annually;
- Issuing shares of stock as mandated by the articles of incorporation and
federal securities law;
- Establishing and maintaining corporate books and records, including
accounting ledgers, shareholder records, and corporate minutes;
- Calling and conducting an initial meeting of the board of directors or
shareholders, as required in the articles of incorporation;
- Holding future meetings at least as often as required by applicable
business laws;
- Conforming all decisions and internal procedures set forth by the articles
of incorporation;
- Recording all actions and decisions of the board of directors in the
corporate minutes; and
- Maintaining annual registration with the state government as required by
law.
Additionally, some businesses must comply with licensing requirements or
professional standards to preserve their status. These businesses may need to
maintain further records or use special procedures or equipment based on rules
for their specific industries.
In many situations, a failure to abide by
corporate obligations can result in personal liability for directors, officers,
or shareholders for business obligations and debts. Because of these harsh
consequences and because the specific legal requirements vary depending on the
business's location and form, businesses should seek professional legal
advice.
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- Question:
In what ways are joint ventures and partnerships alike?
Answer:
Joint ventures and partnerships share many characteristics. A partnership
where two or more individuals or entities join together for a particular
"short term" purpose is sometimes called a joint venture. In a
partnership or joint venture, each partner has equal ability to legally bind
the entire entity. A partner can represent the whole organization in the normal
course of business, and his or her legal actions on behalf of the partnership
(in this case, the joint venture) create legal obligations.
While it is legal to limit the powers of individual partners through a partnership or joint
venture agreement, those agreements do not bind the rest of the world. Since
businesspeople outside of the partnership have no knowledge of the limitations,
they are entitled to rely on the apparent authority of an individual partner as
determined by the usual course of dealing or customs in the trade.
Individual
members of a partnership or joint venture may face liability for the actions of
the partnership or the joint venture. However, new limited liability
partnership (LLP) laws and corporate form options for joint ventures may reduce
this risk.
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- Question:
What are the possible consequences of personal liability for business debts
and obligations?
Answer:
Personal liability can devastate the accumulated wealth of a lifetime of work.
This form of liability opens the individual to claims for a wide range of
business obligations. Most people realize that personal liability may extend to
business losses, but other obligations may also reach individuals, including:
- Damage awards in lawsuits;
- Tax deficiencies and penalties; and
- Back wages and benefit payments.
The limited liability offered by incorporation can shelter business owners from
personal liability. Certain types of insurance can also help cover business
owners, directors, and officers. However, if an owner or director performs
certain personal acts, behaves illegally, or fails to uphold statutory
requirements for corporate status, he or she may face personal liability
despite the corporate shelter.
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