What Is Covered Here

Let’s start from a little disclaimer: corporate formalities can be and in many cases are a rather complex topic. This article attempts to capture the most basic scenarios which are also the most common ones. That being said, we always recommend to consult a corporate/business attorney, licensed to practice law in the state of your corporation’s registration, who will be in a best position to offer advice on specific formalities that might be required for corporations registered in that state.

Examples of the more complex cases requiring corporate attorney attention are mentioned in the end of this article. Also, this article deals with for-profit corporations only.

And now lets proceed to the basics.

Corporate Formalities vs. LLC Formalities

One of the advantages of the LLC over corporation has to do with LLC structure and company formalities, both being less complex than corporate structure and formalities. As such, many states do not even require LLCs to have Operating Agreements, though it is a good practice to always have one in place. Corporations on the other hand are required to have Bylaws and Minutes of Initial Meetings in almost all states.

Basics of Corporate Structure & Corporate Roles

Corporation is an entity separate from its owners, and has a three-level structure: it is owned by shareholders, managed by board of directors, and it’s day to day operations are run by officers.

Below you can see the roles involved, as well as the steps that are typically taken in order to properly establish a standard corporation. The steps don’t have to be in that order – there is typically a degree of freedom in terms of what is done first.

Incorporator

A person or a group or persons who decide to form a corporation (typically future owners of the corporation) appoint someone – a person or an organization – to act as the Incorporator of their new corporation. For example, our in-house incorporators representing our company act as Incorporators on most corporations that our company forms on behalf of our clients.

The role of an Incorporator officially ends when the corporation is registered with the state, and the Incorporator issues a Letter of Resignation, naming the initial Directors of the corporation.

Board of Directors

A board of directors is a body of elected members (Directors) who jointly oversee the activities of a corporation. Board of Directors is elected by the vote of Shareholders (though initial board is appointed by the resigning Incorporator), and part of the responsibilities of the board is to appoint corporate officers and issue shares of stock.

Initial Board of directors is listed in the Letter of Resignation of the Incorporator, and this initial board is responsible to adopt the governing document of the corporation – the corporate Bylaws – as well as make first decisions involving initial issue of stock and sale of this stock to shareholders, as well as appointing corporate officers. For that purpose the First Meeting of Board of Directors takes place and its summary is recorded in the document called “Minutes of the First Meeting of Board of Directors”.

Shareholders

Shareholders are owners of the corporation, who typically contribute money or other tangible or intangible value to the corporation in exchange for corporate shares of stock.

Shareholders can be individuals or organizations, such as other corporations, LLCs, trusts, etc. To become a shareholder one needs to purchase shares of the corporation either from a new issue of stock (which is authorized by the Board of Directors), or through purchase of existing shares from other shareholders.

The first issue of stock takes place during the initial meeting of the Board of Directors. Directors agree on the size of the issue (number of shares) and price per share. Each shareholder is then given a Bill of Sale in exchange for the monetary or other value, and their shares are added to the Stock Ledger.

After the first issue of stock, new shareholders hold the Initial Meeting of Shareholders, during which they elect a new Board of Directors (or confirm existing one), as well as approve the list of Officers appointed by the Board. The summary of this meeting is recorded in a document called “Minutes of the First Shareholder Meeting”.

Officers

Corporation’s day-to-day operations are run by corporate officers. The titles and roles of Officers are often defined in the corporate bylaws, and typically each corporation has at least a President, Vice President, Secretary and Treasurer, or the equivalent roles, such as CEO (Chief Executive Officer), CFO (Chief Financial Officer), etc.

In most states the same person can be a shareholder, a director, and fill all officer roles. Some states have more strict requirements, for example some require that the President and the Secretary be different persons.

Articles of Incorporation and Shares

Articles of Incorporation are filed with the state of registration by the Incorporator. Articles include basic information required by the state statutes that provide certain information on the corporation: its name, the name (and, in many cases, address) of the Registered Agent, name of the Incorporator and more. Some states require listing business and/or mailing addresses, names and addresses of corporations initial directors or officers, etc. Articles are executed (signed and dated) by the Incorporator prior to filing with the state.

An important piece of information typically appearing on the Articles of Incorporation is related to shares. Many people get confused here, since the Articles require listing the number of Authorized Shares, and in some states also a parameter called “Par Value“.

Let’s try to clear out what each of those terms mean, and how they compare with other important terms – Issued Shares and Issued Price:

Authorized Shares

This number of shares is listed on the Articles of Incorporation only, and this is a theoretical number – its real meaning is this: the Board of Directors is not allowed to ISSUE more shares that it is AUTHORIZED on the Articles. So in case more shares need to be issued than there are Authorized on the Articles, the Articles need to be amended first to reflect a bigger authorized number.

Par Value

This dollar value is another theoretical number – it indicates the minimum amount in US$ that the Board of Directors is authorized to charge the new shareholders for the newly ISSUED shares. Again, if the Board wants to issue shares at cheaper value than Par Value the Articles need to be amended first.

When you choose to authorize stock with “NO PAR VALUE” this means the stock has no fixed minimum price. The directors can determine a price for the stock whenever they decide to sell it, which allows for maximum flexibility.

Issued Shares

Those are the real shares issued by the Board of Directors and sold to the shareholders at ISSUED PRICE. This is done after Articles where filed and the initial issue of shares is done during Initial Meeting of Board of Directors (if you order our Bylaws & Minutes service we will document this part for you at that time).

Issued Price

This is the actual price shareholders are paying for the issued shares.

Role of Bylaws

Corporate Bylaws is a legal document that defines a corporation’s purpose, how it will run its affairs, and the duties and responsibilities of people who own and manage it. When you incorporate, you define some of these concepts in your Articles of Incorporation, but Bylaws take it to the next level.

The content of corporate bylaws varies, but typically includes the time and place for meetings of officers, set up of the board of directors, officers and committees, and any other provisions deemed necessary. Because the Board of Directors is the primary governing body of the corporation, this section would cover its composition and the number of directors. It would also discuss the length of a director’s term and how vacancies are to be filled. There would be job descriptions for the officers (i.e., President, Vice President, Secretary, Treasurer, etc.). The same goes for any committees – there would be clear direction about the composition of committees and their role in the corporation.

In addition to that the bylaws would discuss meetings of directors and shareholders, and define whether these meetings will be annual, quarterly or at some other pre-set time. The bylaws must also lay out the time and place of the meetings, attendance requirements and how many board members are needed for a quorum (the number of directors needed to vote on a decision).

What bylaws typically do NOT cover is the personal information on the actual individual shareholders, directors or officers, number of shares issued, or any other information of that kind. Such information would be listed in the Minutes of Meetings, Stock Ledger and Bills of Sale.

Meetings & Minutes of Meetings

Meetings of board of directors and meetings of shareholders constitute an important part of corporate formalities. The corporate bylaws define how frequently periodic meetings should take place, as well as the rules of special meetings, in case the matter at hand requires one.

The summary of each meeting is recorded in the Minutes of a Meeting by the corporate secretary. Those Minutes should be filed in the corporate records, and copies distributed to all participants.

Most notable are the initial meetings that take place during the formation of the corporation. During the initial meeting, board of directors adopts the corporate documents such as bylaws and articles of incorporation, as well as corporate seal, issue the first shares of stock and sell them to the initial shareholders, and finally elect the officers of the corporation. During the consequent initial meeting, shareholders elect a new permanent board of directors and confirm the appointment of the officers.

Other Formal Documents

Letter of Resignation of Incorporator

This letter is issued by the Incorporator and it lists the names of initial directors of the corporation, as well as statement by the Incorporator that all formalities of registering the corporation with the state of registration are completed and Incorporator resigns from his or her position.

Bill Of Sale

Bill of Sale is a document issued by the Board of Directors authorizing the sale of the corporate shares. Bills of Sale are issued to all shareholders buying shares of stock during a new stock issue. This is different from any purchase agreement negotiated between shareholders who sell existing shares.

Stock Ledger

Any new issue of shares, transfer of shares from one shareholder to another, or any other event involving creation, destruction or movement of shares of stock is recorded in the Stock Ledger. It is important to maintain a properly updated Stock Ledger in the corporate records as another evidence of stock ownership in the corporation (besides minutes and bills of sale).

Corporate Resolutions

A corporate resolution is a corporate action, typically in the form of a legal document, that is voted on at a meeting of the board of directors. The resolution could be on just about any subject, but one common subject is to define which individuals are authorized to act on behalf of a corporation to open accounts with financial institutions such as banks. This form of corporate resolution is also required by title agencies when selling corporate owned real estate. The form and structure of this document could vary depending on the state in which the corporation is organized.

Certificate of Incumbency

A Certificate of Incumbency is a document confirming the identity of the signing officers of a corporation. Sometimes it also confirms the names of directors and shareholders as well as minute book contents. A certificate of incumbency is often used to prove that a particular individual is authorized to enter into legally binding transactions on behalf of a company. A Certificate of Incumbency is also known as an Incumbency Certificate, a Certificate of Officers, an Officer Certificate, a Register of Directors, and as a Secretary Certificate.

Making Basic Changes In Your Corporate Structure

If you are looking to make changes in your corporate structure that involve issuing new shares, changing directors or officers, or transferring shares from one shareholder to another, you don’t need to amend the bylaws. Those changes are typically done by calling for a meeting (shareholder meeting when making changes to the board of directors, or directors meeting when issuing new shares or appointing new officers). Such meeting is then recorded in the minutes of meeting and those changes become official. Transfer of shares is typically done via a purchase contract, but such changes often also require approval of the board.

It is important to ensure that all meetings are properly organized, executed and recorded, based on the rules written in the corporate bylaws, just as it is important to ensure that bylaws are kept current and corresponding to the latest laws of the state of incorporation. We always recommend retaining a corporate attorney who can ensure that your corporate bylaws are current (if not, devise proper amendment procedures), and that meetings are performed and recorded correctly.

More Advanced Topics

We covered the most basic and standard topics dealing with corporate formalities, but it is fair to say that we’ve just scratched the surface. Corporate law had centuries to develop, and many states have their own peculiarities, known only to the attorneys practicing corporate law in that state.

Other complexities include the difference between types of stock, as well as other forms of securities. For example, a corporation can issue common stock and preferred stock, as well as create option plans, etc. All those are beyond the scope of this article, and we would recommend you to do a deeper research online, and certainly hire an attorney if you require a more complex structuring of your corporation.

Comparison Between Incorporation-Friendly States

It is commonly recognized today that Delaware, Wyoming and Nevada can all be called “incorporation friendly” states due to their corporative laws, relatively low fees, and limited or nonexistent state-level taxation. However, how would a person choose between the three?

Here we present an itemized comparison between those states, and below a summary and conclusions:

	Delaware	Wyoming	Nevada
No state corporate income tax:
No tax on corporate shares:
No franchise tax:
Minimal annual fees:
One-person corporation is allowed:
Stockholders are not revealed to the State:
No annual report is required until the anniversary of the incorporation date:
No Initial List of Officers/Members is filed with the state:
No general Business License required:
Unlimited stock is allowed, of any par value:
Nominee shareholders are allowed:
Share certificates are not required:
Minimal initial filing fees:
No minimum capital requirements:
Meetings may be held anywhere:
Officers, directors, employees and agents are statutorily indemnified:
Continuance procedure (allows adoption of a corporation formed in another state):
Doesn’t collect corporate income tax information to share with the IRS:

Summary & Conclusions:

In general, Delaware, through its developed legal system and laws protecting shareholder rights, is geared toward the large complex public corporations, whereas Nevada and Wyoming are more attractive to the small privately held corporations and LLCs. Delaware law tends to protect the rights of boards of directors and shareholders, while Nevada and Wyoming tend to favor management.

Does the above comparison mean Delaware is not the best place to incorporate?

Not necessarily. The choice to incorporate in Delaware depends on the long term goals of your company.

Delaware has an excellent body of corporate case law spanning 110 years regarding such matters as management/shareholder issues and mergers & acquisitions, and that’s precisely why the Fortune 500 are drawn to this state. Delaware laws tend to be “pro-management” when it comes to minority shareholder disputes. Huge public companies have literally hundreds of such disputes pending in the courts on any given day.

So if you are aiming to grow your company to become a Fortune 500 company (or at least planning it to attract VC investors and possibly go for IPO one day), Delaware’s case law offers many insights into what you can and cannot do, and what the likely consequences may be.

Unfortunately, Delaware also has corporate income tax, personal income tax, a state franchise tax, reporting requirements and regulations compelling disclosure of substantial amounts of information resulting in far less privacy for you. That makes Nevada and Wyoming much more attractive for small privately owned businesses.

Nevada or Wyoming? Things to consider when choosing between the two states:

1. Information sharing with IRS:Nevada is famed as the only state that does not share information with the IRS. Although that fact by itself is true, there are few things that you should know about it:First of all, Wyoming does share information with the IRS, but only the information given by companies with real assets inside the state. So if you don’t have any real estate in Wyoming you are as protected in that regard as in Nevada.Second, Nevada makes IRS mad. That means if you are in Nevada the IRS is targeting you because you are in a non friendly state.

2. Piercing of corporate veil:The corporate veil separates the assets and liabilities of the company from the assets and liabilities of its owners, thus protecting owners from business risk. Nevada offers the best corporate veil protection available.Wyoming also has well established criteria concerning the piercing of the corporate veil. Where fraud is not present, a Wyoming corporation that does not co-mingle funds and maintains some form of corporate formalities, including holding meetings of shareholders and directors, will not be pierced.Many professionals consider Wyoming to be inferior to Nevada in that regard, with others claiming the differences are negligible.

3. State taxes:There are no state income taxes on individuals or companies both in Nevada and Wyoming.However, Nevada is now considered “the worst state to do business in” by the non-partisan Tax Foundation that has pointed to the new changes to Nevada taxation. Recently, annual list and business license fees which were already the 3rd highest in the nation were increased to $350 for LLCs and a whopping $650 a year for profit corporations. Nevada also has a new “Commerce Tax” on your GROSS REVENUE if your combined gross revenue of all of your Nevada business entities is over $4 million per year! In other words, the state will combine the income of multiple corporations of any common owner and apply the Commerce Tax if the combined revenue reaches the $4 million threshold.Wyoming is not considering any business income tax and does not need to, since Wyoming has a multiple year budget surplus.

4. Continuance (moving your company to another state):Wyoming is one of only two states that provides for true continuance in its corporate laws. Many states provide for domestication, but that is not the same thing.If a foreign corporation decides to domesticate in another state it either creates a new corporate entity in that state or it adds additional domiciles. However, in Wyoming, continuance is a process by which Wyoming creates the legal fiction that the corporation has always maintained its domicile in Wyoming.Your existing corporation can retain its original incorporation date after becoming a Wyoming corporation. Anyone examining the Wyoming public record will see a corporation dating back as far as your current corporation does. You can promptly become a Wyoming Corporation without losing the many benefits of the longevity and continuity of operation.

Why Nevada?

For years Nevada claims to be the “incorporating capital of the west”, and to support that claim it has spent more than a decade developing the appropriate legal infrastructure. Determined to establish itself as a leader in incorporation, Nevada had completely revised its Corporate Code in 1987, and again in 1991, making the entire incorporation process quicker and more efficient, with greater liability protection than ever before.

Unlike Delaware that targets larger corporations, Nevada positioned itself more suitable as a home for small, privately held corporation. With no corporate taxes of any kind, maximum liability protection for corporate officers and directors and ease of establishment Nevada has become the attractive choice for those wishing to incorporate themselves and their business activities.

That being said, recent political and fiscal developments in Nevada, which brough introduction of expensive Business License and Initial List filing requirements, as well as outrageous renewal fees and rough treatement of delinquient businesses, have significantly reduced the attractiveness of the state. Wyoming became the state of choice for many businesses that traditionally incorporated in Nevada, and many established Nevada businesses are choosing to change the corporate domicile to Wyoming, thanks to the friendly domestication laws in Wyoming.

Some Facts

Here are some facts dealing with forming a company in Nevada:

• Nevada has no state corporate taxes.
• Nevada has no franchise tax (but it has general Business License, which must be renewed annually).
• Nevada has no tax on corporate shares.
• Nevada has no personal income tax,
• Nevada provides total privacy of shareholders.
• Nevada is the only state without a formal information-sharing agreement with the IRS,
• Nevada has established case law that prevents easy piercing of the corporate veil.
• Corporate officers and directors can be protected from any personal liability for their lawful acts on behalf of the corporation,
• Stockholders, directors and officers need not live or hold meetings in Nevada, or even be U.S. citizens,
• Only the names and addresses of the officers and directors are on public records. No other information, listings, or minutes of meetings are filed with the State,
• There is no minimum initial capital requirements to incorporate,
• Nevada corporations may issue stock for capital, services, personal property, or real estate. The directors alone may determine the value of any such transactions, and their decisions are final.

Nevada is one of the three states commonly recognized as “corporate heavens”, the other two being Delaware and Wyoming. Before making your choice please see our article that runs a comparison DE vs. NV. vs. WY.

Why Wyoming?

Few people know that little fact, but it was Wyoming that invented the American LLC in 1977, as it was modeled after the 1892 German company law known as Gesellschaft mit beschrnkter Haftung (GmbH). Nevada and Delaware copied Wyoming’s LLC and profited from it most through better marketing.

Wyoming is one of the best places to establish a company, and this is proven by the fact that a very high percentage of the companies dealing on Wall Street are registered in Wyoming.

The popularity of Wyoming as a “corporate heaven” in enhanced by the very liberal Corporation Law which enables companies to be established quickly with the broadest possible powers permitted under the law. There are little or no restrictions on any consequent business activities.

Advantages of Incorporating in Wyoming

Here are some advantages of incorporating or forming LLC in Wyoming:

• Wyoming has no state corporate income taxes,
• Wyoming has no franchise tax,
• Wyoming has no tax on corporate shares,
• The annual fees are based on the value of corporate assets that are physically located in Wyoming, not on assets located elsewhere,
• One person may fill all the required corporate officers and directors,
• Stockholders are not revealed to the State,
• No annual report is required until the anniversary of the incorporation date,
• The articles of incorporation may provide for unlimited stock without a requirement for stating par value,
• Wyoming statute has provisions for bearer script which can be used when stockholders capitalize the corporation in increments less than the par value of the stock,
• Wyoming allows for nominee shareholders,
• Share certificates are not required,
• There is no minimum capital requirements,
• Meetings may be held anywhere in the world,
• Corporate officers, directors, employees and agents are statutorily indemnified from personal liability associated with their corporate activity,
• Additional indemnification is allowed even after suit is filed by a potential judgment creditor,
• Wyoming has a continuance procedure, which allows a corporation formed in another state to change it’s domicile to Wyoming wile maintaining its corporate history.

You can learn more about advantages of Wyoming over other states, as well as get help deciding whether you should or should not choose Wyoming as the state of registration by reading our article Start Your Business in Wyoming.

Wyoming is one of the three states commonly recognized as “corporate heavens”, the other two being Delaware and Nevada. Before making your choice please see our article that runs a comparison DE vs. NV. vs. WY.

Why Delaware?

Delaware is famed to be the “incorporation capital” of America – more than 60% of Fortune 500 companies are incorporated in Delaware. According to Delaware Department of State, Division of Corporation’s 2006 Annual Report the number of active business entities in Delaware has grown 50% in the last six years to a total of more than 765,000. In 2006, Delaware welcomed more than 145,000 new businesses.

The reason why so many Fortune 500 companies are drawn to this state is the fact that Delaware has an excellent body of corporate case law spanning 110 years regarding such matters as management/shareholder issues and mergers/acquisitions.

Some Facts

Here are some facts dealing with forming a company in Delaware:

• Names and addresses of shareholders, directors, officers, members or managers of a Delaware Company do not appear within public records. Moreover, during incorporation process, there is no obligation to provide this information to the State of Delaware.
• No minimal capital investment in the Company is required.
• There is no sales tax in Delaware.
• The Company has no obligation to have a bank account in Delaware.
• The Delaware Company headquarters may be located anywhere in the world. The Company has no obligation to have its headquarters in Delaware, nor to conduct any business in this state. The sole obligation for the Company doing business somewhere other than Delaware is to be represented by a Registered Agent in Delaware.
• The same person can be Shareholder, Director and Officer of a Delaware Corporation. Directors can establish the price they wish for the sale of the Company’s shares. They can also adopt, modify or repeal any Company bylaw.
• If the Company does not do business in Delaware, it does not have to pay any income tax to the state (this is relevant to C-Corporations only).
• If a Delaware Company shareholder doesn’t reside in the state, the said shares are not subject to inheritance tax in case of death.
• The Delaware Court of Chancery is the oldest business court in the country and uses judges instead of juries.
• Delaware adopted a whole set of corporate laws which are very favorable to companies and which recognize contractual freedom. The “General Law Corporation” of Delaware is one of the most evolved and flexible corporate laws in the United States.

With all those advantages in place, Delaware might not be the most suitable place to incorporate your new business. Delaware is one of the three states commonly recognized as “corporate heavens”, the other two being Nevada and Wyoming. Before making your choice please see our article that runs a comparison DE vs. NV. vs. WY.

Choosing The Right Incorporation State

Once you have decided to incorporate or form an LLC, you need to choose the state for your new entity.

Naturally, for most businesses the choice would fall on their home state, i.e. the state where the company will do most of its business. This rule holds especially true for smaller businesses that will likely not expand significantly, or that do not want to conduct business outside of their home state, like shops, dealerships, etc.

As your business grows, and it appears that you may need to conduct business in another state, you can always register what is called a “Foreign Entity“, or a “Foreign Corporation” – technically, a legal “extension” of your business in another state.

Not all businesses need to be organized in the state where you are currently located (especially if you are a foreigner and live outside of USA). Each state has its own legal requirements and registration procedures for new businesses wishing to incorporate. Certain states are famous as favorable homes for incorporating or forming an LLC due to their unique incorporation laws and favorable tax policies. The most notable are Delaware, Wyoming and Nevada.

Some Examples:

• If you are looking to place your real estate assets under a legal entity like an LLC then it makes sense to incorporate in the state where those assets are physically located. It is generally recommended to put each real estate asset in its own LLC in order to limit the liability of each property to itself.
• For those entrepreneurs looking to form a corporation or LLC for their new ventures (like online businesses, or technology start-ups), choosing one of the more favorable states (like Delaware, Wyoming or Nevada) might prove to be a wiser choice. That is especially true if some or all shareholders and/or employees are not located in the same state, often the case with Internet-based businesses.
• Home-based businesses would often enjoy many tax benefits related to maintaining an office in your home, therefore, with some exceptions, it would usually make sense to organize your home-based business in your home state.
• Some specific needs require specific choices as far as organization goes. An example of such specific need would be estate planning. If you are looking for ways to protect your children and spouse from enormous estate tax liability when you go to a better place, there are incorporation tools offered by various states (such as “Close Corporations”, “Close LLCs”, etc).
• Other examples include some more exotic types of entites like Series LLC or L3C – Low-profit LLC (a cross between a nonprofit organization and a for-profit corporation). These types of entities are currently being offered only in few states.

To fully evaluate your incorporation needs and to choose the right state to form your business entity in it is important to consult your tax and legal advisors. Those specialists should have the knowledge and experience to help you evaluate your unique business needs and help you make the best choice.

What is a Series LLC?

Series Limited Liability Company (LLC) is a business entity that was introduced by the State of Delaware nearly nine years ago. The concept is innovative and based on the fact that several series or “cells” may be created within a single LLC. Basically, a Series LLC possesses the ability to divide its assets and liabilities into various sub-LLCs or series while still controlling them from one umbrella company. The closest analogy in the business world would be a corporation with several subsidiaries.

What are the advantages of a Series LLC?

A Series LLC eliminates the expense and administrative duties related to forming multiple LLCs. A Series LLC is preferred to a corporation with subsidiaries because it does not have the taxation, expense or formalities associated with a parent-and-subsidiary corporate structure.

Each cell in a Series LLC has its own profits, losses and liabilities and is legally separate from the other series. These sub-LLCs also have their own economic structures, members, managers and assets. The assets in a sub-LLC are protected from legal enforcement against the assets of another LLC.

Another, lesser-known advantage is that a Series LLC may not be required to pay sales tax on rent paid by the operating series. The business must own the real estate and the rent must be paid to the sub-LLC owning the real estate series. In this respect, the Series LLC may also be compared to an S-Corporation with Q-subsidiaries.

What States Currently Offer the Series LLC Option?

Though Delaware was the first to form the Series LLC, other states are also adopting the practice. Currently, District of Columbia, Illinois, Iowa, Kansas, Minnesota, Montana, Nevada, North Dakota, Oklahoma, Tennessee, Texas, Utah, Wisconsin and Puerto Rico also allow the formation of Series LLC.

How to Form a Series LLC

Forming a Series LLC is similar to forming an LLC or corporation in any state. Today, only Illinois requires a different application and charges higher registration fees for forming a Series LLC rather than a simple LLC.

Once the company is formed with the state, a Series LLC will require some extra documentation compared to an LLC. A 50 or more page Operating Agreement must be prepared to establish a Series LLC. This document must be signed and created according to the rules and regulations governing the Series LLC. In most instances, an attorney is needed to draft the Operating Agreement and an accountant will be needed to explain related tax laws governing the Series LLC.

Each sub-LLC will have to create a separate Series Agreement. Each sub-LLC will have its own asset name, bank account and a separate EIN (Federal Tax ID) number. While the Operating Agreement will be amended as series are added or deleted, the Certificate of Formation (also called Articled of Organization) filed with the state does not require amendment.

How to Add and Delete a Series

A series may be added or deleted by amending the Series Operating Agreement. The Series LLC members must sign an Addendum to the Operating Agreement and then separate accounts must be established and records maintained for the new cell.

In Delaware, a sub-LLC only requires approval by 66% of the owners of a Series LLC.

Deleting a sub-LLC from the umbrella company requires a similar procedure, along with a proper liquidation of its assets and liabilities.

Requirements for Forming a Series LLC

Each sub-LLC should maintain a separate bank account. If there is real estate purchased by a sub-LLC, all deeds should be in the name of the series or sub-LLC (for example ‘SuperCompany, LLC – Green Series’). This should be designated on the document to avoid confusion. All contracts, loans and other notes should also be designated in this format as well. If there are any transactions between series, they should be conducted as though they were an outside entity. For instance, when involved in a real estate transaction with a sub-LLC, the deal should be negotiated at fair market prices according to current appraisal values. All loans between sub-LLC have to be interest-bearing and properly documented.

All assets and operations should be kept separate from other sub-LLCs. Each asset should only be owned by one sub-LLC or series. For example, the same property cannot be owned by more than one series. Each sub-LLC should have enough capital to support itself apart from the other sub-LLCs (a series cannot be undercapitalized).

It is advisable for each sub-LLC must apply for its own ‘doing business as’ name (sometimes called a DBA, a fictitious name or an assumed name). The DBA records should indicate the owners of the sub-LLC. This alerts all interested parties, including creditors, as to which sub-LLC is responsible for any assets or debt accrued. The fictitious name should be obtained in the state or county where the property is owned or the assets of that particular sub-LLC reside.

Only one registered agent and a single annual report are generally required for a Series LLC.

Issues with Series LLC Formation

Currently, governing bodies have not resolved the problems surrounding tax and creditor issues related to the Series LLC. There is some conflict between the Federal Bankruptcy Code and the State Series LLC law. Some current Series LLC owners have expressed concerns about their inability to file one tax return for all of the sub-LLCs. Many attorneys are reviewing the tax laws to determine the best way to resolve tax issues. The resolution will also determine whether or not they will endorse the Series LLC nationwide. However, a pending IRS regulation may solve at least the federal taxation questions related to Series LLC. It is expected to be enacted in the near future.

In California, where Series LLC is not officially recognized, each sub-LLC must file separate state tax returns since it is considered a separate LLC. This process usually requires its own Form 568 Liability Company Return of Income. Each sub-LLC must also pay its own separate LLC annual tax and fee. In Delaware, however, where the Series LLC originated a Series LLC is considered a single entity for state tax purposes. An experienced professional tax consultant should be consulted to avoid problems associated with a Series LLC tax return.

Some professionals have agreed that California’s interpretation of the tax law for Series LLC may be the most prudent way to handle taxes. However, their interpretation does not allow the tax benefits that were initially proposed by the formation of the Series LLC in Delaware. This fact is preventing the concept from being adopted nationwide.

Investors are advised not to group high liability assets with low liability assets in a Series LLC. High liability assets are defined as active businesses, and low liability assets are defined as real estate. This practice is not recommended even if the assets are in separate sub-LLCs.

Who Will Benefit from the Series LLC?

The Series LLC is preferred by savvy investors or ambitious entrepreneurs. Many business owners use Series LLCs as planning tool for venture capital funds, hedge funds, oil and gas deals and fractional share arrangements. Such complex business arrangements often use the series LLC as a management tool. The concept may also be used for Mutual Funds to avoid filing more than one application for separate classes of funds with the SEC. The Series LLC is also useful for entrepreneurs with multiple business ideas or for franchise businesses. Many companies may also use a Series LLC to establish incentive compensation for employees, to own intellectual property or for real estate investments. This concept may also be used as a part of family gifting.

Real Estate investors with multiple properties often use the Series LLC to isolate each property and the liability associated with it into a separate sub-LLC. To save on annual filing fees, the Series LLC may be registered as a single foreign entity in the states other than its home state. This practice is common among entrepreneurs who use Series LLCs to own properties in New York, Texas and California.

Comparison Between LLC and Corporation

The following table gives side-by-side comparison of 3 most common forms of business organization: C-Corporation, S-Corporation, and LLC (Limited Liability Company):

Quick Comparison: LLC vs. C-Corporation

The entities are taxed differently.

By default an LLC is a pass-through tax entity, meaning that the income is not taxed at the company level (however, a Multi-Member LLC is still required to complete a separate tax return). The income or loss as shown on this return is ‘passed through’ the business entity to the individual members, and is reported on their individual tax returns.

C-Corporation is a separately taxable entity, and pays tax on the income prior to any dividend distributions to shareholders. If and when corporate earnings are distributed to shareholders in the form of dividends, the corporation does not receive the reasonable business expense deduction, and dividend income is taxed as regular income to the shareholders.

The entities differ in their structure.

LLCs are less rigid in their structure than corporations, so you have more flexibility in adapting the LLC to your unique business. The Operating Agreement of an LLC can be structured in a limitless number of ways.

Formality:

A corporation is a formal entity with officers and directors (at least one of each) required. An LLC, on the other hand, can be ‘member managed’ and run in a less formal way. For small, start-up businesses, less formality means you can focus on making money rather than administrative work.

Quick Comparison: LLC vs. S-Corporation

Difference in income allocation:

While S-Corporation special tax status eliminates double taxation, it lacks the flexibility of an LLC in allocating income to the owners. An LLC may offer several classes of membership interests, while an S-Corporation may only have one class of stock.

Ownership restrictions:

Any number of individuals or entities may own interest in an LLC. Also, LLCs are allowed to have subsidiaries without restriction. Ownership interest in an S-Corporation is limited to no more than 100 shareholders. On top of that S-Corporations cannot be owned by C-Corporations, other S-Corporations, many trusts, LLCs, partnerships, or non-resident aliens.

Self-Employment Taxes:

One advantage of S-Corporation is the way self employment taxes are calculated. S-Corporation owners employed by the company must receive salary, and their self employemnt tax is caluclated based on that salary (this is true with the exception of S-Corporations based in New York City). Owners of LLC, on the other hand, pay self employment taxes based on all member distributions they receive.

Quick Comparison: C-Corporation vs. S-Corporation

All corporations start as C-Corporations and are required to pay income tax on taxable income. An C-Corporation becomes a S-Corporation by completing and filing federal form 2553 with the IRS.

Taxation:

An S-Corporation’s net income or loss is ‘passed-through’ to the shareholders and are included in their personal tax returns. Because income is NOT taxed at the corporate level, there is no double taxation as with C corporations.

Difference in income allocation:

Subchapter S-Corporations, as they are also called, are restricted to having no more than 100 shareholders, and cannot be owned by C-Corporations, other S-Corporations, many trusts, LLCs, partnerships, or non-resident aliens.

Which Business Entity Is Right For Me?

Once decided to become involved in a new business venture, how would you know which legal entity is the right for you? The choice of entity would influence many aspects of the life of your business, from taxation to limiting liability, and more.

Let’s start by reviewing the most common types of entities, available for people doing business in the United States:

Sole Proprietorship & General Partnership

A sole proprietorship is a type of business entity which is owned and run by one individual and where there is no legal distinction between the owner and the business. General Partnership is similar to Sole Proprietorship, except it is owned and run by two or more partners.

All profits and all losses accrue to the owner(s) (subject to taxation). All assets of the business are owned by the proprietor (or the general partners), and all debts of the business are debts of the owner(s) and must be paid from owner(s)’ personal resources, meaning that the owner(s) has unlimited liability.

A sole proprietor may do business with a trade name (DBA) other than his or her legal name. This also allows the proprietor to open a business account with banking institutions. It is a ‘sole’ proprietorship in the sense that the owner has no partners. General Partnership usually does business under a trade name as well.

Establishing a sole proprietorship is cheap and relatively uncomplicated. You don’t have to file any papers to set it up – you create a sole proprietorship just by going into business. In other words, if you’ll be the only owner of the business you’re starting; your business will automatically be a sole proprietorship, unless you incorporate it or organize it as an LLC. Of course, you do have to get the same business licenses and permits as any other company that goes into the same business. It is also advised to register a DBA (‘Doing Business As‘) name with the state for your business.

General Partnership is established by drafting a partnership agreement and obtaining EIN for tax purposes. Registering a DBA is advisable in order to be able to legally operate under the chosen business name.

Advantages:

+ One takes all the profits of the business – no corporative taxes on the profits made,

+ No double taxation,

+ Easy to start up,

+ Relatively fewer regulation,

+ Full control over the business,

+ Easy to discontinue,

+ Quick decision process.

Disadvantages:

– Unlimited liability – owner(s) of the business is (are) responsible for the business’s debts,

– If business becomes successful, the risks accompanying the business tend to grow,

– Hard time raising capital – owner(s) have to make up for all the business’s funds,

C Corporation

A corporation is a type of business entity that is organized under specific provisions of the General Corporation Law. A corporation must have shareholders, directors and corporate officers, and must be registered with the state. In addition, the corporation will be taxed at the state and Federal level on its earnings.

A corporation offers the protection from personal liability for the owners (shareholders). This ‘corporate veil‘ of protection does not offer protection from liability in the case of fraud, failure to pay taxes, under capitalization of the corporation, or commingling of personal and corporate funds.

The “C” part of “C Corporaiton” refers to the designation of the corporation for tax purposes. Most major companies (and many smaller companies) are treated as C corporations for Federal income tax purposes. Keep in mind, since “C Corporaiton” is a tax designation, and not an entity type, some entities other than corporation (such as LLC) can elect to be taxed as “C Corporation”. For corporations “C Corporation” is a default designation, and does not require any additional filings with the IRS or the state.

Advantages:

+ Limited Liability – owners of the business are not personally responsible for the business’s debts,

+ A corporation may qualify as a C corporation without regard to any limit on the number of shareholders, foreign or domestic.

Disadvantages:

– Double taxation – C Corporations are subject to corporate taxes, therefore creating the effect of double taxation (first on corporative level, and then on shareholders’ personal level).

Click to learn more about C Corporations.

S Corporation

Similar to the C Corporation, S corporation offers all the benefits of a corporation, but with a different tax structure. S Corporations, much like sole proprietorships and partnerships, pay no corporate income tax. S corporation’s shareholders report the company’s income or losses on their personal tax returns.

To elect your corporation to be taxed as S Corp you need to file S Corporation election with IRS and some states.

One of the biggest differences of S Corp tax designation over disregarded entities and partnerships is in the way payroll and self employment taxes are paid, which could result in tax savings. Despite the obvious tax benefits, S Corporation comes with several restrictions. Major restrictions are:

– Can’t have more then 100 shareholders,

– All shareholders must be physical persons – or simply put, real persons, not corporations, partnerships, etc (there are few exceptions for non-profits and trusts),

– All shareholders must be U.S. citizens or residents,

– Must have only one class of stock.

Click to learn more about S Corporations.

Limited Liability Company (LLC)

LLC combines the limited liability protection of a corporation (hence the name) with the flexibility and pass through taxation of a partnership/sole proprietorship. Like the shareholders of a corporation, the owners (members) of an LLC are not personally responsible for the debts or liabilities of the LLC.

The LLC has no limitations on who may be involved, and it can be managed by its members or by managers. It is often more flexible than a corporation and it is well-suited for companies with a single owner.

Advantages:

+ Limited Liability – owners of the business are not personally responsible for the business’s debts;

+ No limits on number of members;

+ Flexibility in tax designation – LLC can be taxed as disregarded entity/partnership (default), or as S Corp or C corp (requires filing additional election documents with IRS and some states);

+ No double taxation, when elected to be taxed as disregarded entity/partnership, or S Corp.

Disadvantages:

– In some states (e.g. New York, Illinois) more expensive to form and/or renew than corporation;

– If your business is looking for major investment, your investors might be reluctant to invest in an LLC.

Click to learn more about Limited Liability Companies.

So Which Type of Entity Is Right For Me?

The answer to this question depends strictly on your specific needs and circumstances. We always recommend our clients to discuss your personal situation with a professional CPA or business attorney, however, it is equally important to educate yourself prior to scheduling appointments. After all, it is your business.

Choosing The Right Name

Choose the name of your legal entity carefully. It is important for the chosen name to portray the image you want for your new company. Legally, the name you select must not be “deceptively similar” to any existing company, or must be “distinguishable on the record” of your state.

For example, if a company named “Glow LLC” exists in your state, you probably would not be allowed to name your business “Glove LLC”.

Sometimes the name you select will not be available. This is the reason we ask our clients to submit a second and a third choice of company name when forming a new entity. Additionally, most states require you to add the words “Limited Liability Company,” or the abbreviation “LLC” to the end of the name (for LLCs), or “Inc.” , “Corp.” or “Incorporate”, “Corporation”, etc. for corporations.

Sticking To Your Name

Once you choose the name (including the appendix, also called entity identifier) you should stick with it. For example, if your company name is “MyCompany Inc.” then all your official letterheads, correspondence, domain names, business cards, and any other company related documents and sales collateral would have to include the use of “MyCompany Inc.” as opposed to “MyCompany Corp” and such.

Reserving Your Business Name

If you are not ready to form your company, but want to protect the name you want to do business under, you can reserve that name with the Secretary of State in which you plan to form your business entity. The process of company name reservation is simple and very much similar to the process of forming the actual entity. Keep in mind that name reservations are often limited to a specific period of time, so you might need to renew the reservation or risk loosing the name you have reserved.

What if My Business Needs to Operate Under Several Names?

Your business entity can only have one name, however you can file as many assumed names (also called trade name, fictitious name, “Doing Business As“, DBA, or d.b.a.) as you like, as long as they are available in the state or county where you plan to use them.

Creating DBA is the easiest and most cost effective way to do business under a new business name without having to create an entirely new business entity. With DBA you can accept payments, advertise, and otherwise present yourself under that name.