California Business Lawyer Blog

What exactly is a surety bond and why should small business owners care?
A lot of people like to sum up a surety bond as insurance, but in reality, surety bonds are a financial guarantee. They are a part of the insurance industry but they serve as a financial guarantee for the obligee (or person requiring the bond which is usually the state)

How do I know if my business/start-up needs a bond?
Almost every small business is required or can utilize a surety bond in some way. For instance, many states require a sales tax bond for stores to operate. Almost every business that requires a license to operate in the state will be required to post a surety bond. Some of the more common industries include car dealers, mortgage brokers, and even insurance brokers. If you aren't required to post a bond to operate, many companies look into getting a fidelity bond or a dishonesty bond which protect the owner against employee theft.

How do I obtain one?
Most of the time, it's a simple process. If the bond required is $25,000 or less, often just submitting an application is all that is necessary. With the application process there is a credit check and depending on how the credit check comes back, they may or may not need to submit and any sort of financial data or bank letter of credit. For most people with a good credit background, they only need to submit an application and they will be on their way with a bond in hand. This process usually takes anywhere from 24 to 48 hours. If there is a cosigner, letter of credit or collateral needed, or you want to do a premium financing surety bond then the process will usually take a little longer to complete.

One thing to consider before you get a surety bond that will save you time in the long run is that when you first submit an application, if there is another partner (or anyone with more than 10% share) in the company, they also need to be underwritten on the bond. So if there are three partners, there need to be three applications with three signatures.

What do surety bonds cost?
The cost is determined by examining the credit of the person needing the bond and what type of bond it is. A person with good credit will normally get standard rates that can range anywhere from .05% to 5% of the full bond amount. If the person has sub-standard credit, then they normally have to pay anywhere from 5% to 15% of the total bond amount.

Do I have to get a new one every year?
Most license and permit bonds are required to be renewed every year. There are thousands of types so it really depends on the specific bond that your company needs and the requirements that the obligee puts on the bond.

This guest post was written by Kevin Kaiser of Surety Bonds .com[link:http://www.suretybonds.com]. If you want to learn more about how surety bonds are involved in small business check out our podcast with David B. Willis on Texas Small Business Law[link:http://davidwillislaw.com/texassmallbusinesslaw/surety-bonds-for-small-businesses/] or visit the Surety Bond Education Center[link:http://www.suretybonds.com/edu/].

A standard form contract (sometimes referred to as an adhesion contract or boilerplate contract) is a contract between two parties that does not allow for negotiation, i.e. take it or leave it. It is often a contract that is entered into between unequal bargaining partners, such as when an individual is given a contract by the salesperson of a multinational corporation. The customer in no position to negotiate the standard terms of such contracts and the company's representative often does not have the autonomy to do so. While adhesion contracts, in and of themselves, are not illegal per se, there exists a very real possibility for unconscionability says California Business Lawyer Steven C. Peck.

Standard form contracts are rarely read
Lengthy boilerplate terms are often in fine print and written in complicated legal language which often seems irrelevant. The prospect of a buyer finding any useful information from reading such terms is correspondingly low. Even if such information is discovered, the consumer is in no position to bargain as the contract is presented on a "take it or leave it" basis. Coupled with the often large amount of time needed to read the terms, the expected payoff from reading the contract is low and few people would be expected to read it. Sometimes a standard form contract may literally be dispensed from a vending machine to drivers sitting in line to enter a parking garage, which means that stopping to read the contract risks provoking road rage.
Access to the full terms may be difficult or impossible before acceptance
Often the document being signed is not the full contract; the purchaser is told that the rest of the terms are in another location. This reduces the likelihood of the terms being read and in some situations, such as software license agreements, can only be read after they have been notionally accepted by purchasing the good and opening the box. These contracts are typically not enforced, since common law dictates that all terms of a contract must be disclosed before the contract is executed.

Continue reading "Carefully Read Standard Form Business Contracts" »

As with a general partnership, a limited liability partnership requires an agreement so that each partner's role, protections and expectations are clearly defined. The limited liability partnership (LLP) has been an ever-growing form of business organization in recent years. It protects a partnership in much the same way as a limited liability corporation protects the business. It is important, however, to check with your state before forming an LLP and signing an agreement, because not all states recognize this type of organization suggests Steven C. Peck a California Business Lawyer located in Van Nuys, California.

If your state does recognize an LLP, then an agreement of this type is essential if the goal of the partnership is to form individual protections. The limited liability partnership agreement sets forth terms designed to protect a general partner's assets from liability claims against the partnership. Generally, this agreement protects against liability arising from the negligence, wrongful acts, or misconduct committed in the ordinary course of business by any other partner, employee, agent, or representative. The exception to this agreement would be if the partner created the liability himself or herself. In that instance, their personal assets would most likely be in jeopardy. As in any other partnership, the LLP agreement should define a joint liability for contracts and liability for normal business debts of the partnership. In some states, once an LLP agreement is utilized, liability insurance may be required. It is always important to check local laws before determining this is the appropriate agreement for your partnership, but to protect each partner from the liability of other partners, this type of agreement is a very wise choice.

Continue reading "Limited Liability Partnership Requires a Written Agreement Defining Each Partners' Roles and Expectations" »

General vs. Limited PartnershipsThere are two types of partnerships: general partnerships and limited partnerships (LPs). In a general partnership, each partner can incur obligations on behalf of the partnership, and each assumes unlimited liability for the partnership's debts. For example, if the partnership owns a truck, and the truck strikes and injures a pedestrian, each partner is personally liable for any damages or judgments says California Business Attorney Steven C. Peck.

This unlimited liability risk makes limited partnerships an attractive alternative to general partnerships. In an LP, there is usually just one general partner (although there can be more). The other partners are called "limited partners." The general partner has full management responsibility runs the day-to-day operations of the business. A limited partner cannot incur obligations on behalf of the partnership and does not participate in the firm's daily operations or management. In fact, a limited partner's role usually involves nothing more than making an initial capital investment in exchange for a share of the firm's profits indicates Los Angeles Business Lawyer Peck.

While the general partner wields most of the power, they also bear the lion's share of the liability. A limited partner's liability, on the other hand, cannot exceed their financial contribution to the partnership. So, if a truck owned by a limited partnership accidentally injures someone, the damaged party could go after the general partner's personal assets but could only go after a limited partner's actual investment in the partnership.

As a result, a limited partnership offers two key advantages: It gives the general partner the freedom to run the business without interference, and it protects the limited partners if something goes wrong. Limited partners may choose to get more involved in a partnership's daily operations, but they do so at their own risk. In the eyes of the law, their involvement may make them a general partner and strip them of their limited liability.

Continue reading "General vs. Limited Partnerships: Types of Business Structure" »

Long-term financing is a tool that most companies use to promote their business and increase their profitability says California Business Lawyer Steven C. Peck.

While several options for business loans are available, most loans are subject to the same volume terms and conditions.

Business loans have two main lengths: intermediate-term and long term. Intermediate-term loans are one to three years, while long-term loans are more than three years. Ten years is a popular choice for long-term loans.

Loan terms include loan amount, repayment options, interest rate and any special requirements such as financial statement updates or balloon payments. These terms have been negotiated by the applicant to ensure they get the best loan for their business.

Banks use strict credit assessments to determine the amount of credit to extend to the applicants. Factors such as current outstanding loans, on-hand capital and business credit ratings are important factors used in approving long-term loans.

Some lenders require businesses to provide collateral for the loan amount. This security is surrendered to the bank if the company fails to fulfill any of the loan terms.

Long term Business loans are best used by companies expanding business or buying competitors, which will increase their profitability. These types of long-term profit operations allow companies to build a positive cash flow before repaying their long-term loans.

Continue reading "Long Term Business Financing Used to Increase Profitability" »

The stock market gives many Americans a chance to have a small ownership share in publicly traded companies. Stock holders, as partial owners of the company, share in the company's profit and loss. However, they often have little, if any, say in the business decisions of the company and they have no control over the everyday operations of the company. Instead, it is the company's Board of Directors that is charged with the decision making responsibility and operational control says California Business Attorney Steven C. Peck.

Over the years, the courts have been in the often difficult position of having to decide if a company's Board of Directors acted appropriately in certain situations. The courts have been reluctant to second guess the business decisions of Boards of Directors, even if those decisions are disastrous. However, the courts have recognized that Boards of Directors have certain duties or responsibilities to company shareholders. Those duties are called the Board's fiduciary duties and include the duty of care and the duty of loyalty. indicates California Business lawyer Steven C. Peck.

The Duty of Care
Each publicly traded company's Board of Directors has a duty of care to its shareholders. That means that in making business decisions the Board must exercise reasonable care in the decisions that it makes for the company. Reasonable care has two elements. First, the Board must be acting in good faith for the benefit of the company. They must believe that the actions they are taking are in the company's best interest. Second, they must believe that the actions are in the best interest of the company based on a reasonable investigation of the options available. In other words, they must carefully consider the available options within the time and financial constraints presented before they make a decision or take a particular action on behalf of the company.

The Duty of Loyalty
In addition to the duty of care, the Board of Directors owes a duty of loyalty to company shareholders. That means that the Board of Directors must be loyal to the company and its shareholders and act in their best interest. The Board and its individual members may not act in their own best interest or engage in self-dealing while making decisions or taking actions on behalf of the company. The duty of loyalty is sometimes known as the business judgment rule because the Board is required to make its judgments in the best interest of the business.
Shareholders must remember, however, that even if the Board of Directors strictly adheres to both of its fiduciary duties of care and loyalty, business decisions may still be made that hurt that company. That is because many business decisions are inherently risky. The courts recognize this risk and do not engage in the business of second guessing business decisions that were carefully made in what was honestly believed to be the company's best interest. That said Boards of Directors are in unique positions of trust. They must, therefore, carefully exercise their duties of care and loyalty in their furtherance of their business goals. Then the shareholders, the Board members and the business will be protected.

Continue reading "The Duty of Care and the Duty of Loyalty: Basic Business Law Principles" »

The important principles of letters of intent and term sheets are not dissimilar to the standards you learned in high school. Both letters of intent and term sheets are essentially outlines of a contract that is yet to be drafted by the parties. They provide the most important parts of the agreement between the parties in much the same way that an outline of a research paper provided you with a guide to your final paper.
What are Letters of Intent and Term Sheets?
Letters of intent and term sheets are very similar. Both documents outline an agreement that two or more parties expect to make. A letter of intent, as the name implies, is written in the form of a letter whereas a term sheet is more often a list of the important parts of the anticipated contract or agreement.
Generally, letters of intent and term sheets are used for one of a few purposes including:
To clarify complex terms that will later be included in a contract;
To provide notice that the parties are officially negotiating with one another; or
To provide certain safeguards in case the negotiating parties do not end up entering a contract.
Often, business letters of intent are used when one party intends to acquire another party, when two or more parties intend to merge or when two or more parties intend to embark on a joint venture. Forms are available online to draft letters of intent and term sheets and these documents do not usually require formal execution in the presence of witnesses.
Since letters of intent and term sheets are, by definition, written before a formal and binding contract has been executed, many of the elements included in the letter of intent or term sheet are not binding on the parties. The terms that explain what the parties anticipate agreeing to or hope to achieve are not binding, for example. However, terms that relate to the negotiations themselves are usually binding and one party may sue another and recover damages if those terms are breached.
The legally binding terms may include:
· non-disclosure agreements to prevent parties from sharing confidential information with third parties;
· a covenant to negotiate in good faith; and
· exclusive rights to negotiate that prevent parties from negotiating with other parties while they are negotiating with each other.
What Happens After Letters of Intent and Term Sheets Have Been Written?
After a letter of intent or term sheet has been written, the parties still have a lot of work to do. A contract must still be negotiated and properly executed in accordance with state law in order for the agreement of the parties to be binding. Letters of intent and term sheets are not substitutes for contracts. Letters of intent and terms sheets provide the benefit of providing clarity to mutual understandings in the often complex world of business negotiations but it is important to remember that they are limited in that they do not fully reflect enforceable agreements between the parties.

Continue reading "Letters of Intent: Basic Principles" »

The most widely accepted standard of value is "fair market value." This standard applies in all federal and state tax matters and has been adopted for most valuation purposes indicates Los Angeles Business Attorney Steven C. Peck.

In appraisal parlance, it is broadly stated to be the amount that is fair and equitable to the parties to a transaction. The common definition is the amount at which property would change hands between a willing seller and a willing buyer when neither is acting under compulsion and when both have reasonable knowledge of the relevant facts says California Business Attorney Peck.

Fair market value is almost universally accepted as the cash or cash-equivalent, price. The terms "market value", "cash value", and "investment value", often used in statutes and opinions, have usually been interpreted as equivalent to fair market value.

The distinction between fair market value for continued use and fair market value in liquidation (when the seller is under a compulsion to sell) should be considered in an appraisal; each requires its own valuation techniques.

Continue reading "The Concept of Fair Market Value" »

The California State Bar said it has now shut down the loan modification businesses of two men for allegedly lying to consumers about being supervised by attorneys. The bar, which acted with the Orange County Superior Court in this case, has worked with other state and local officials to crack down on companies promising homeowner aid but not delivering it. says California Business Lawyer Steven C. Peck.

The bar alleges Curtis Melone of Huntington Beach and Christopher Fox of Redondo Beach promised to help homeowners facing foreclosure keep their properties but did nothing.

An attorney for the men was not immediately available for comment.

They can argue their case at a hearing scheduled at 1:30 p.m. on January 14, 2010, in Department 31 of the Orange County Superior Court. Their operations were halted on Dec. 21.

The duo operated under the names Guardian Credit Services, Green Credit Solutions, Green Credit Services, Erickson Law Group, Green Credit Law and PacWest Funding. A Web search indicates the companies were based primarily in Foothill Ranch and Irvine.

Here's more from the bar:

After working with the California Department of Justice, the California Department of Real Estate and the Orange County District Attorney's Office, State Bar investigators and prosecutors seized client files, terminated phone and computer services and posted notices to clients and the public about the shutdown. All officers, principals and employees of the businesses were ordered to cease and desist from holding themselves out as attorneys.
Since last March, the State Bar has aggressively sought to stop loan modification fraud by lawyers and to shut down the offices of people offering foreclosure services who represent themselves as lawyers. Thirteen attorneys have resigned in the wake of investigations by the State Bar Task Force on Loan Modification and six businesses have been closed. says California Business Lawyer Steven C. Peck.
Section 6126.3 of the Business and Professions Code gives authority to a superior court, on its own motion or upon application of the State Bar, to assume jurisdiction of the business of a person who is not a lawyer. Assumption of a law practice by a Superior Court is based upon the court finding that a person has engaged in the practice of law without being an active member of the State Bar or otherwise authorized to practice in California and that the interest of a client or interested person or entity will be prejudiced if the court does not assume jurisdiction.

Continue reading "California State Bar Closes Down Loan Modification Businesses" »

Articles, statutes, and cases dealing with business valuation use a variety of terms for value including "fair market value", "intrinsic value", "fair value", "investment value", and "cash value".

"Fair Market Value" is the term which is most often used by business appraisers and tax statutes says California Business Attorney Steven C. Peck.

In the buy-sell agreement context, "value" is ordinarily equivalent to "price", although the two words are not necesarily synonymous.

Continue reading "Valuation Terminology Applicable to Corporations and Partnerships" »

An Limited Liability Company ("LLC") is dissolved and its affairs are wound up on the happening of any of the following events: (1) at the time specified in the articles; (2) on the happening of events specified in the articles or a written operating agreement; (3) by a vote of at least a majority in interest of members or a greater percentage, if required by the articles or operating agreement; (4) without contrary provision in the articles or operating agreement, on the death, withdrawal, resignation, explusion, bankruptcy, or dissolution of a member, unless the LLC is continued by a vote of all remaining members within 90 days; or (5) on entry of a decree of judicial dissolution says California Business Law Attorney Steven C. Peck.

Continue reading "The Dissolution of a Limited Liability Company in California" »

Chrysler Group LLC will notify its 789 shuttered dealers that it is complying with a new federal law requiring arbitration for dealers who want to challenge the closings says California Business Attorney Steven C. Peck.

Chrysler said Sunday that the company is "complying with the law and will continue to do so," spokeswoman Kathy Graham said.

Chrysler sent letters required under the law on Dec. 23 giving Chrysler dealers the contact address for all correspondence during the arbitration process says California Business Lawyer Steven C. Peck.

Starting MondayJanuary 11, 2010, the 789 closed dealers "will receive an additional letter which gives information about the legislation, the arbitration process and criteria used overall to determine what contracts were rejected, as well as how it applied to the dealer individually." Peck Says.

But Chrysler hasn't given up its right to fight the measure in court.

"We have made no decision on whether or not to challenge the law, in the mean time we are complying with the legislation and dealers have been notified where to send correspondence concerning arbitration".

Contact Steven Peck's Premier Legal toll free at 1.866.999.9085 to talk to an experienced Los Angeles, California Business Attorney and visit us on-line at www.premierlegal.org.

Breach of contract is a legal concept in which a binding agreement or bargained-for exchange is not honored by one or more of the parties to the contract by non-performance or interference with the other party's performance says California Business lawyer Steven C. Peck.

Minor breaches
A minor breach, a partial breach or an immaterial breach, occurs when the non-breaching party is unentitled to an order for performance of its obligations, but only to collect the actual amount of their damages. For example, suppose a homeowner hires a contractor to install new plumbing and insists that the pipes, which will ultimately be sealed behind the walls, be red. The contractor instead uses blue pipes that function just as well. Although the contractor breached the literal terms of the contract, the homeowner can only recover the amount of his damages. Generally, this means the difference in value between the red pipe and the blue pipe. Since the pipes are identical value, the difference is zero; therefore, there are no damages and the homeowner receives nothing.

Material breach
A material breach is any failure to perform that permits the other party to the contract to either compel performance, or collect damages because of the breach. If the contractor in the above example had been instructed to use copper pipes, and instead used iron pipes which would not last as long as the copper pipes would have, the homeowner can recover the cost of actually correcting the breach - taking out the iron pipes and replacing them with copper pipes indicated California Business attorney Steven C. Peck.

The Restatement (Second) of Contracts lists the following criteria to determine whether a specific failure constitutes a breach:

In determining whether a failure to render or to offer performance is material, the following circumstances are significant: (a) the extent to which the injured party will be deprived of the benefit which he reasonably expected; (b) the extent to which the injured party can be adequately compensated for the part of that benefit of which he will be deprived; (c) the extent to which the party failing to perform or to offer to perform will suffer forfeiture; (d) the likelihood that the party failing to perform or to offer to perform will cure his failure, taking account of all the circumstances including any reasonable assurances; (e) the extent to which the behavior of the party failing to perform or to offer to perform comports with standards of good faith and fair dealing.

Fundamental breach
A fundamental breach (or repudiatory breach) is a breach so fundamental that it permits the aggrieved party to terminate performance of the contract, in addition to entitling that party to sue for damages.

Anticipatory breach
A breach by anticipatory repudiation (or simply anticipatory breach) is an unequivocal indication that the party will not perform when performance is due, or a situation in which future non-performance is inevitable. An anticipatory breach gives the non-breaching party the option to treat such a breach as immediate, and, if repudiatory, to terminate the contract and sue for damages (without waiting for the breach to actually take place).

Limits on Remedies and Damages
Typically, the judicial remedy for breach of contract is monetary damages. See damages. Where the failure to perform cannot be adequately redressed by money damage, the court may enter an equity decree awarding an injunction or specific performance.

The aggrieved person has a duty to mitigate or reduce damages by reasonable means. Liquidated Damages may be limited to a specific amount. In the United States, punitive damages are generally not awarded for breach of contract but may be awarded for other causes of action in a lawsuit. Limitation of Liability (Exculpatory) clauses. [Private agreement is permissible.] [Invalid when public interest is involved and there is willful conduct or gross negligence.

Contact Steven Peck's Premier Legal toll free at 1.866.999.9085 to talk to an experienced california business lawyer and visit us on-line at www.premierlegal.org.

Introduction
When starting a new business, one of the most important issues to consider is the "format" of the business. There are a wide variety of formats to choose from, and they range from the very basic to the extraordinarily complex. Each format has advantages and disadvantages in terms of simplicity, flexibility, cost (both to form and to operate), taxation issues, control, continuity of life, transferability of ownership, and liability protection. indicates California business lawyer Steven C. Peck.

This article is intended to provide an overview of the more common business formats, and to outline some key points to bear in mind when making your decision.

A Word About "Limited Liability"
First and foremost, there is no entity in the world that will protect you from your own wrongdoing. For example, if you are driving a vehicle and you negligently injure someone, your personal assets will be exposed to creditor claims whether you are doing business as a sole proprietorship, a limited partnership, a limited liability company, a corporation, or any other entity. Good business practice and asset preservation techniques dictate that you maintain an adequate level of insurance as additional protection against the kinds of claims for which you may be held personally liable.

Secondly, having limited liability does not mean you will not lose money; rather, it means you will not be personally liable for the debts of your business. For example, assume you form a limited liability company and invest $100,000 in it, and then the business is sued for $250,000.00 because of a breach of contract. If your business loses that suit you may lose your $100,000 investment, but absent fraud or other wrongful conduct on your part your personal assets not held in the business name will not be at risk.

Finally, it is important to understand that you can lose your limited liability protection in certain circumstances, such as if a court finds that you are using your business entity to defraud someone, or that you have not taken the appropriate steps to keep the business separate from your personal affairs. You will need to work closely with your lawyer and your tax professional to ensure that your limited liability protections are preserved to the maximum extent possible says california business attorney Steven C. Peck.
Sole Proprietorship
The simplest of all formats, a sole proprietorship is nothing more than one person going into business for himself. (The owner's spouse may work at a sole proprietorship as an employee, but if a husband and wife wish to operate the business together they must form a partnership or some other entity.) Because the business has no legal existence apart from its owner no particular formalities are required to form the business. (Note, though, that you may need to obtain certain licenses or permits, and to file an assumed name certificate if you are going to be doing business under any name other than your own.) Sole proprietorships do not pay franchise taxes, and earnings and losses are reported on your personal income tax return. Unfortunately, this format offers no liability protection whatsoever, so good insurance coverage is vital to protect your personal assets from business-related claims.

General Partnership
A partnership is formed when two or more people agree to jointly carry on a trade or business and share in the profits. Like a sole proprietorship no particular formalities are required to form the business, although a written partnership agreement is strongly recommended in order to minimize the risk of misunderstandings and disputes. General partnerships do not pay franchise taxes, and the partners each include their respective share of the partnership's profits and losses on their individual income tax returns. General partnerships do not offer any liability protection, which means that you can be held personally liable for the debts of the business and for the wrongful actions of your partners whether you participated in those actions or not.

Registered Limited Liability Partnership
A registered limited liability partnership (LLP) is a partnership that has "registered" with the Secretary of State to receive special liability protections. As explained above, each partner in a partnership ordinarily has full personal liability for the debts of the business and the acts of their partners. In a limited liability partnership, however, a partner is not individually liable for debts and obligations of the partnership arising from wrongful acts committed by another partner unless the first partner participated in or was aware of the wrongful act at the time it occurred. To maintain this protection, the partnership must file an annual registration with the Secretary of State along with a fee of $200 per partner. In addition, the partnership must maintain insurance or other security of at least $100,000 to cover the kinds of errors, omissions, negligence, incompetence, or malfeasance for which liability is limited.

Corporation
A corporation is a legal entity that has existence separate from its owners, which means that it can continue in operation even after the death of the owner. A corporation is formed by making the appropriate filing with the Secretary of State, and the business may not commence until the Secretary of State approves that filing. Certain formalities are strongly recommended, including the adoption of bylaws, issuing stock certificates, holding annual meetings of the directors and stockholders, and approval of written resolutions authorizing specific persons to act on behalf of the corporation. Corporations are required to pay franchise taxes and (except in the case of S-corporations) must pay income taxes on their earnings. In addition, the stockholders must pay income taxes on the dividends distributed by the corporation. Corporations do offer limited liability protection for the stockholders.

Once the entity of choice for all but the simplest of businesses, corporations are declining in popularity because other business formats offer better tax treatment while still providing limited liability.

S-Corporation
An S-Corporation isn't really a separate business format. Rather, it is a corporation that has elected to receive special tax treatment by the IRS. For that reason, the formalities associated with forming and operating an S-corporation are the same as with any other corporation, and S-corporations also provide limited liability protection to their shareholders. What makes S-corporations more compelling is that they avoid the double taxation that results when the corporation pays taxes on its earnings, and the stockholders pay taxes again on the dividends. Instead, the S-corporation's stockholders include their share of the corporation's separately stated items of income, deduction, loss, and credit, and their share of non-separately stated income or loss (a feature called "pass-through taxation.") There are important restrictions, however, such as limitations on the number of stockholders, the types of entities that may be stockholders, stockholder residency, and classes of stock.

Limited Liability Company
One of the newest business formats, limited liability companies (LLCs) are rapidly growing in popularity, and for good reason. The process of forming an LLC is similar to that of forming a corporation. Like corporations, LLCs have continuity of life separate from their owners, offer limited liability protection to their owners, and must pay franchise taxes. Other features of LLCs are more like a partnership, providing management flexibility and the benefit of pass-through taxation with no restrictions on the number of the owners. Texas even allows single-owner LLCs, making them an excellent alternative to a sole proprietorship. LLCs offer an attractive balance of the most desirable features of the other business formats, and we expect them to become the de facto standard for small businesses in the near future.

Limited Partnership
A limited partnership is a special kind of partnership having one or more "general" partners and one or more "limited" partners. The partners may include other partnerships, limited partnerships, foreign limited partnerships, trusts, estates, corporations, persons acting as a trustee or executor, or other entities. To form a limited partnership, the partners must enter into a partnership agreement and file the certificate of limited partnership with the Secretary of State. Limited partnerships offer flow-through taxation and (currently) do not pay franchise taxes.

In a limited partnership, the "general" partner has all the management authority and full personal liability. In contrast, the "limited" partners have no management authority but enjoy limited liability. (Essentially, limited partners are "silent investors" and general partners run the business.) Because the general partner has full liability, it is common for an entity, such as an LLC, to serve as the general partner. If the limited partners own the general partner entity, they can have limited liability for themselves while still maintaining management authority of the limited partnership through their voting rights in the general partner.

When properly set up, limited partnerships offer excellent asset protection and may also be useful in reducing or eliminating federal estate taxes. However, because they typically involve two separate entities (the limited partnership itself and an LLC or other entity to serve as a general partner of the partnership) they tend to be the most complex and expensive formats to establish and maintain.

Continue reading "Contemplating the Business Format When Starting a New Business Enterprise" »

A corporation is a business entity created under state law, which stands as an independent legal "person" apart from its shareholders and directors. Accordingly, a corporation may enter into contracts, obtain loans, and pay taxes on its own behalf, and it continues to exist even after its founders or shareholders die or transfer their shares to others.

A corporation's owners or shareholders receive the benefit of limited liability for the obligations of the corporation, and are thus ordinarily shielded from the corporation's creditors even in the event that the corporation cannot pay its obligations.

Unless limited by state law or its own articles of incorporation, a corporation continues indefinitely. Ownership can be transferred through sale of stock, and the sale or transfer of a controlling interest in the corporation does not necessarily affect its management structure or operations.

Types of Corporation
Close Corporation - A "Close Corporation" or "Closely Held Corporation" is owned by a small group of shareholders, as defined by state law, usually not exceeding thirty to fifty individuals. The stock of a close corporation is not sold either on a stock exchange or "over the counter".

Public Corporation - A public corporation is a corporation whose shares are publicly traded, whether on a stock exchange or "over the counter".

C Corporation - A C Corporation is a standard business corporation, which pays tax under Subchapter C of the tax code.

S Corporation - An S Corporation is a corporation which has elected for its profits to be taxed in the manner of an unincorporated entity. Not all corporations can opt to become S Corporations.

Professional Corporation (PC) - A special type of corporation incorporated to perform professional services, such as the practice of law or medicine. (Historically, professionals were not permitted to incorporate. Now, many professional practices incorporate as PC's or LLC's.)

Limited Liability
Perhaps the biggest historic advantage of the corporate form is the extension of limited liablity to the corporation's officers, directors and shareholders. That is to say, if a business is sued or is unable to pay its debts, the creditors can ordinarily only reach the corporation's assets and cannot reach the assets of the shareholders. This protection against liability is referred to as the "coprorate veil". However, certain types of misconduct by a corporation or its officers may enable creditors or state tax authorities to "pierce the corporate veil" and reach the personal assets of those who engaged in the wrongful conduct. (Federal tax authorities may already bypass the corporate veil as a matter of law.) Also, individuals can be held responsible for their own negligence and misconduct, for actions intended to damage or defraud the corporation, and for corporate debts they personally guaranteed.

In recent decades, additional limited liablity entities have been created, such as the limited liability company (LLC), giving business owners a greater range of choices.

Articles of Incorporation
When you wish to form a corporation, the first step is to file "articles of incorporation" with the state in which you desire to incorporate, along with the required filing fee. Most states offer approved forms for completing and submitting articles of incorporation. Typically, states require the articles to include:

The name of the corporation;

The address of the corporation;

The identity of the corporation's "registered agent" (the person designated to receive service of process and certain important documents on behalf of the corporation); and possibly

The names of the directors of the corporation.

Getting Started
In addition to filing articles of incorporation, every new corporation must do the following:

Create a set of bylaws which govern its operation;

Hold an initial meeting of its board of directors; and

Issue stock to its shareholders.

Corporations are also expected to meet certain bookkeeping standards and to maintain their own bank accounts, and most businesses will benefit from consulting with an accountant in setting up appropriate accounting and record-keeping systems.

As they get started, most corporations will benefit from formulating a buy-sell agreement, to help guide the sale or transfer of shares by the initial set of shareholders, covering such issues as how the share value will be determined if a shareholder wishes to sell his interest, and what will happen if a shareholder dies, becomes disabled, or wishes to sell shares to a third party.

Who Does What?
Discussion of corporations usually involves mention of shareholders, directors, and officers:

Shareholders - A shareholder is the owner of shares in a corporation. Depending upon the nature of the shares, a shareholder may ordinarily participate in votes to select or remove directors, to amend the corporate bylaws or articles of incorporation, to merge or reorganize the corporation, or to dissolve the corporation or liquidate its assets.

Directors - A corporation's directors typically engage in action including the election of corporate officers, the issuance of stock, oversight and approval of major financial transactions, and approving compensation packages for executives and officers of the corporation. In many small corporations, most or all of the shareholders will also serve as directors.

Officers - The officers of a corporation oversee its daily operations and activities. Most states require that a corporation have a President (and possibly a Vice President), Secretary, and Treasurer. In simple terms, the President has authority to direct the business, the Secretary has authority over corporate records, and the Treasurer has authority over corporate finances. Most states permit a corporation to appoint one person to all three positions.

In a small corporation, the shareholders may also serve as directors and officers.

Annual Meetings & Reports
Among the obligations a corporation must meet on a continuing basis, a corporation is required to hold an annual meeting, keep minutes reflecting what occurred at the meeting, and to file an annual report and fee with the state in which it is incorporated. Failure to follow these steps can cause the corporation to lapse. While it may be possible to cure the lapse by filing late reports and payments, if it is not possible the shareholders may find themselves liable for the corporation's outstanding debts and obligations. Also, C Corporations must file annual tax returns.

Taxation
A C Corporation pays taxes on its corporate income, whereas the profits of an S Corporation pass through to the shareholders who report their share of the profits on their personal tax returns. Even if corporate income tax has been paid, any dividends paid by a corporation to its shareholders are also subject to taxation as income to the shareholder.

Securities Laws
As the number of shareholders to a corporation grow, the possibility arises that state and federal securities laws will apply to the corporation and its conduct. If shares are to be sold or distributed to more than a limited set of shareholders (usually about thirty-five shareholders), the corporation may have to register the sale with the securities authorities of the state and federal governments before it can issue the shares. Securities laws can also be implicated by issuance of stock options to employees. Corporations should take care to know how securities laws apply to their situation in advance of taking action which might implicate those laws.

Continue reading "The Corporation as a Business Entity: Types of Corporations" »