Can I lose My Companys Limited Liability protection?
As with corporations, there are certain exceptions to the limited liability protection afforded by the LLC:
· The LLC defaults on a loan that an owner personally guarantees.
· The managers do not deposit the taxes withheld from employee wages.
· A member injures someone.
· The owner does not separate the corporation as an independent entity; that is, the owner does not separate business from personal matters.
· Illegal activities are not afforded limited liability protection.
An LLC should not be characterized as an extension of the owners’ personal affairs (piercing the limited liability veil) if the owners adhere to the following corporate formalities:
· The LLC has an operating agreement in place.
· The owners make an adequate investment in the company.
· The LLC maintains business records and transactions separate from the owners.
· The owners manage the LLC legally, and are not concealing any relevant or important information to investors, creditors, or vendors.
Managing a Limited Liability Company (LLC)
Creating an LLC Operating Agreement
The LLC operating agreement allows you to coordinate your financial, operational, and working conditions with your partners. As with a partnership, the LLC lets you elect to run your company with your rules and not by the default rules set your State (which would come into affect if you did not have an operating agreement). The operating agreement outlines the status of your LLC as an independent entity; this is particularly important in a one-person LLC, otherwise it looks like a partnership.
If there is no operating agreement, or unless your operating agreement states otherwise, a LLC terminates when one member leaves the organization. In this case, the LLC must complete the outstanding business responsibilities, pay all debts, and divide profits. If the remaining members want to continue with the business, then they have to set up another LLC. A way to avoid this problem is by setting up a buy/sell agreement, spelling out what the procedures are if one of the members becomes disabled, retires, leaves the LLC, or dies.
At first, the operating agreement might seem daunting; sometimes it is. However, most of the time entrepreneurs use a lawyer to construct an operating agreement. The operating agreement is one of the main (and sometimes only) reasons you might need a lawyer when you are starting your business.
Keep in mind that the operating agreement becomes important when you have partners; if you do not have partners, it becomes much less of an issue.
Even though your State may not require you to create an operating agreement for your LLC, it is a good idea to create one. In the operating agreement, you create a set of rules for the procedures of a small business. The operating agreement usually includes:
· The allocation of profits and losses among members.
· The management of the LLC.
· The members’ rights and responsibilities.
· The proportional interest that each member has in the business.
· The proportional voting power of each member.
· An outline for how to hold meetings and take votes.
· Provisions for the departure of one or more members from the LLC, such as buy/sell provisions. This
becomes one of the most important sections in an operating agreement as it outlines how disputes will be resolved between partners.
Drafting an LLC agreement can be a complicated process, particularly if you have partners. We advise you to seek a lawyer’s help. However, if cost is an issue, you can find templates of operating agreements that may satisfy your business needs. Check your local stationary store or in the legal section of a bookstore. You should make changes to these templates to suit your needs.
Distributive Shares
Usually the portion of profits and losses is allocated with the proportion of ownership in the LLC. If proportion of ownership to profits and losses differs, you have to follow your state rules for special allocations.
The IRS has very specific rules for special allocations in order to prevent owners from shifting income from the person with the highest tax bracket to the person with the lowest one. To test this, the IRS follows the “substantial economic effect” criteria, meaning that the special allocation is made as a factor of the owners’ real economic situation. It is best to consult a tax professional when making special allocations.
Voting
Although most decisions in a LLC are informal, if the members of your LLC need to make a decision on a controversial issue, they can do so in a couple of ways. Usually the decision is based on the weight of each member’s contribution. Alternatively, each member may get one “per capita vote” (based on an individual’s financial contribution to the LLC). Whichever method you choose, make sure it is specified in the operating agreement.
The Limited Liability Company (LLC)
The Limited Liability Company (LLC) is a business structure that affords the limited liability protection of a corporation and the management flexibility of a sole proprietorship or a partnership. In case of a lawsuit or unpaid debt, only the business assets are at risk.
In contrast with a business set up as a corporation, a LLC does not need to hold regular management meetings. You are not required to keep records, but it is always a good idea to document important business decisions.
Another advantage of a LLC is taxation. Similar to sole proprietorship and partnerships, a LLC has pass-through taxation, so the members declare the business earnings on their personal income taxes. Nevertheless, LLC owners can elect to have their business taxed like a corporation. This will reduce the taxes for the owners who plan to retain most of the earnings in the corporation. You should speak with your accountant to see which elective taxation is suitable for your business.
How to form an LLC:
There are four ways you can form your LLC.
- Using an “incorporating company” will cost $50 to $200 extra, but these companies will register your business and, depending on the package you buy, even get your Tax ID Number.
- Your accountant might know the registration process and can help you for a fee.
- Using a lawyer is the most expensive, but most professional, solution. Depending on the lawyer, she might be able to help you to obtain the proper licenses for your industry.
- Do it yourself by getting the forms from your state’s website, or local offices
Though filing the LLC documents is not very complicated, you might want to have a lawyer and accountant or an incorporating company do this for you to ensure you do not miss a step.
Naming Your LLC
The following are some requirements for your LLC’s name:
- The name cannot include words such as “bank,” “insurance,” or “corporation.”
- You must choose a name that is different from another LLC registered in your State
- The name must end with “Limited Liability Company,” “Limited Company,” or an abbreviation such as LTD, Liability Co., L.L.C., or LLC.
Filing the Articles of Organization
The articles of incorporation are simple documents that you can get from your state’s filings office. In theses documents you provide the LLC address, name of the owners, and list the address of a person called the registered agent. The Registered Agent is the person who receives all the legal paperwork for your LLC.
Publishing
Some states require that you publish a notice in a local paper to set up your business as a LLC. In some cases once you register your LLC you should call your local county clerks office to obtain a list of qualified publications where you can publish. Your local county clerk’s office would be the county of your business address
Step 3: Get a Tax ID (Employer Identification Number)
Obtaining the Employer Identification Number (EIN) is a straightforward process. You must fill out a SS4 Form and file it with your local IRS service center.
You can obtain EIN number by filling and mailing out the SS4 form, applying through the web, using the IRS Tele-TIN service or the IRS FAX-TIN service.
Filling out the SS4 form:
You can download the form from the IRS website or apply online at www.irs.gov
You can order the form by phone:
1-800-829-3676 (Voice) 1-800-829-4059 (TTY)
This is a compilation of information and is not a guide. Check with your accountant or legal professional for information that pertains to you
Financing, loan and investments for a Corporation
Corporations have an easier time finding financing than partnerships and sole proprietorships because they offer a formal structure to investors and lenders. Investors know how much they own of a corporation by the number of shares they purchase and lenders know that the corporation’s formal structure requires more checks and balances than the other business structures.
Financing issues for corporations
- Gains and losses are allocated proportionately to percentage ownership in the business. Some corporations pay monies to the owners and directors as salaries.
- Owners are not personally liable for debts or lawsuits (limited liability protection). However, the owners would be liable if they personally guarantee a loan or do not comply with the corporation’s management requirements.
- Business owners need shareholder approval for major investments or business decisions.
- Loans for a small business are affected by the owners’ or directors’ credit score.
Taxes S-Corporation
An S-Corporation’s earnings will pass through to your income taxes (no double taxation). However, you will have to maintain all the business records and comply with state regulations.
Owners of an S-Corporation pay FICA on shareholders’ salaries, but do not pay for distribution of profits and earnings. The S-Corporation shareholder does not pay self-employment taxes on profits or earnings.
What follows is a partial list of the forms you may need for your S-Corporation. Confer with your tax professional for details:
- Form 1120S U.S. Income Tax Return for an S-Corporation
- Form 1120S K-1 Shareholder’s Share of Income, Deductions, Credits, etc.
- Form 4625 Depreciation and Amortization
- Employment tax forms, for more information go to: www.irs.gov/businesses/small/article/0,,id=99194,00.html
- Form 1040: U.S. Individual Income Tax Return
- Schedule E: Supplemental Income and Loss
- Form 1040 ES: Estimated Tax for Individuals
- Other forms might be needed for capital gains, consult with your accountant.
S-Corporation
Setting up as an S-Corporation allows you to have the limited liability of the regular corporation and the pass-through taxation of a sole proprietorship or a partnership. In other words, you pay taxes from corporate income on your personal income taxes. Nowadays, for a small entrepreneur, it is more convenient to set up a Limited Liability Company (LLC) as it hold the limited liability benefits of the corporation and the flexibility of a sole proprietorship or a partnership.
Advantages of an S-Corporation
Forming an S-Corporation can have its advantages, some are:
- If you plan to sell your S-Corporation, the taxable gain in the business can be less than if you set up your business as a regular corporation.
- You can declare business losses on your income taxes with an S-Corporation, offsetting your tax liability.
- You can minimize FICA and self-employment taxes. Shareholders’ profits are not taxed in this manner.
- You can raise capital more easily than as a sole proprietor or partnership.
- You have the limited liability protection without paying taxes as a corporation.
Disadvantages of an S-Corporation
However, there are disadvantages:
- S-Corporations cannot have more than one hundred shareholders.
- The company shareholders cannot deduct the cost of fringe benefits provided to employees who own more than 2% of the corporation.
- A shareowner cannot deduct losses more than the amount invested in the company.
- Each S-Corporation shareholder has to be a U.S. permanent resident.
- Profits and losses for an S-Corporation are proportional to each member’s investment into the business.
- You must receive compensation before earnings are distributed to shareholders (i.e., you must pay the employment taxes). This is important when the shareholder is also an employee.
To Form an S-Corporation
The steps for forming the S-Corporation are the same as the regular Corporation (also known as a C-Corp).
The shareholders are required to file IRS Form 2553 found at http://www.irs.gov/pub/irs-pdf/f2553.pdf . This form will transform the corporation into a subchapter S-Corporation.
There may be more steps involved according to your state, consult with your tax professional.
This is only a compilation of information and may not be up-to-date, or apply to your particular situation.
Corporation Taxes
Tax Forms for Corporations
For informational purposes only, always consult your tax professional!
Your corporation will have to file separate taxes; a corporation will be viewed as a separate entity by the IRS and will pay taxes independently, so company earnings will be subjected to double taxation—one time at the company level, and another at the personal income level.
A Corporation pays FICA tax on salaries, compensation and bonus paid to shareholders.
- Form 1120 or 1120-A Corporation Income Tax Return
- Form 1120-W Estimated Tax return for the corporation
- Form 8109-B Deposit coupon
- Form 4625 Depreciation
- Employment Tax forms, for more information go to: www.irs.gov/businesses/small/article/0,,id=99194,00.html
Other forms needed for capital gains, sale of assets, etc.
Tax Rates on earnings:
- 0 to $50,000 15%
- $50,000 to $75,000 25%
- $75,000 to $100,000 34%
- $100,001 to $335,000 39%
- $335,000 to $10,000,000 34%
- $10,000,000 to $15,000,000 35%
- $15,000,000 to $18,333,333 38%
- Over $18,333,333 35%
The information may be out of date go to the IRS website for the most updated information or talk with your tax professional
Corporation Limited Liability
The following is for informational purposes only, always consult with your legal or tax professional
Protecting Limited Liability
The corporation is characterized as a separate entity and can offer liability protection to the owners, if the owners adhere to the following corporate formalities:
- The corporation maintains business records and transactions separate from the owners.
- The owners manage the corporation fairly and legally, and are not concealing any material information from investors, creditors, or vendors.
- The owners make an adequate investment in the company; the owners cannot simply lend the company money.
- The corporation holds regular meetings between directors and shareholders.
- The corporation formally issues stock to initial shareholders.
Restrictions to Limited Liability
The benefit of limited liability will be challenged if:
- The owner personally guarantees a bank loan on which the corporation defaults.
- The business owner directly injures someone.
- The corporation performs any illegal activities.
- The corporation does not separate itself as an independent entity from the owner, that is, the owner does not separate business from personal matters. You will have to treat the corporation as if it is a separate entity. You should document everything.
- The corporation fails to deposit taxes withheld from employee wages.
- The corporation assets and liabilities are manipulated by the shareholder
Maintaining Corporate Identity
It is important to separate the identity of the corporation from its owners. This will help you protect your limited liability status.• Make all annual filings with the Secretary of State.
- Operate the company under its name, making sure that the people doing business with your company know that the company is a corporation and that they are not doing business with you.
- Avoid giving personal guarantees as much as possible. Documents signed by officers of the corporation should clearly state that it is done on behalf of the corporation without giving a personal guarantee.
- Treat the company as a separate entity. Company payments need to be classified as loans, compensation, dividends, loan repayments, or capital contribution.
- Receive from the company a note, should you decide to lend money to your company.
- Confer with your consultant or plan administrator annually if you have a pension plan, as there may be changes in laws or regulations.
- With the exception of S-Corporations, the company should have a written contract between an owner-employee and the company. The company’s minutes should reflect the adoption of the contract.
- Keep any leases involving the owner and the company (such as the leasing of property) favorable to the company, or at arms’ length to the owner.
- Document all intercompany relationships and dealings if you own multiple companies.
This is for informational purposes only, always consult with your tax or legal professional
Corporation: Retaining Corporate Status
The following is for informational purposes only, always consult with your tax or legal professional
In order to maintain all the benefits of corporation status, the owners need to do the following:
- The corporation needs to hold annual meetings between shareholders and directors.
- All major transactions need to be recorded in the corporate minutes.
- The corporation directors must sign documents in the name of the corporation.
- The corporation must have separate bank accounts from its owners and keep thorough and independent financial records.
- The corporation must file a separate tax return.