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Keys for Using an S-Corporation

August 6th, 2008

If you have been considering forming a corporation or other business entity to provide yourself with limited liability and financing options in your business venture, you have made an important first step. You may have compared the tax benefits of corporations and limited liability companies or limited partnerships. If you have done so, you likely realized that corporations are taxed twice, while limited liability companies and limited partnerships are taxed once.  While a corporation’s profits are taxed once as the corporation’s income and again when the profits are distributed as dividends, a limited liability company or limited partnership’s profits flow through the entity and are only taxed once as personal income to the individual member of the limited liability company or partner in the limited partnership. This is referred to as flow-through taxation. Based solely on the tax treatment of corporations, you may be prepared to use a limited liability company or limited partnership for your business.

While limited liability companies and limited partnerships feature outstanding charging order protection, Nevada has recently extended such protection to corporations with between two and seventy-five shareholders.

Before you decide which business entity to use, there is one more option for you to consider. If you choose to use a limited liability company or a limited partnership, your business may limit its financing options. Financing for a limited liability company or a limited partnership may not be as readily available as financing for a corporation, because interests in such entities are not as transferable as interests, or shares of stock, in a corporation. An S-corporation is the alternative that provides both financing options and flow-through taxation; however, to be treated as an S-corporation, your business must do the following:

• Incorporate the Business - As with a regular corporation, referred to as a C-corporation, an S-corporation must prepare and file Articles of Incorporation with the state, prepare and operate under Bylaws, operate under a Board of Directors and corporate officers, and engage in corporate formalities.
• File an S-Corporation Election Form - To be eligible for S-corporation tax treatment, the corporation must (1) be a corporation organized in any U.S. state, (2) not be an ineligible corporation (certain types of businesses are not eligible), and (3) have only one class of stock. If eligible, the corporation may file an S-corporation election form, Form 2553, with the Internal Revenue Service within forty-five days after incorporating. While this will allow flow-through federal taxation, it is important to note that five states do not recognize S-corporations and may tax the corporation as a C-corporation. It is also important to note that S-corporations are not eligible for certain tax deductions that C-corporations may enjoy.
• Notice and Obey S-Corporation Limitations - Once the corporation has made its S-corporation election, it must notice and obey the limitations on S-corporations to maintain its flow-through tax status. If the corporation violates any of the following limitations, it will lose S-corporation status and will not be eligible for flow-through taxation for five years: (1) it must have one hundred or fewer shareholders; (2) all of its shareholders must be individuals, descendants’ estates, estates of individuals in bankruptcy, or certain trusts, because business entities may not be shareholders; and, (3) all of its shareholders must either be United States citizens or resident aliens in the United States (nonresident aliens may not be shareholders). If the corporation loses its flow-through tax status, the Internal Revenue Service will treat it as a C-corporation.

Every business is unique. Your business’s form should be based on your specific circumstances. While the limitation on the number and types of shareholders allowed in S-corporations may affect financing options, such limitations may have less practical importance than the limitations on financing options created by using a limited liability company or a limited partnership. Accordingly, S-corporations’ tax benefits, management structure and transferability of shares may provide the benefits that your business needs in an entity that also provides you with limited liability. By considering your business’s options and choosing the best available business form, you will ensure that you take advantage of available opportunities.

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Five Mistakes People Make When Incorporating

July 30th, 2008

1. Choosing the Wrong Entity

Problem: Many incorporating companies are not run by lawyers but by promoters, people who have no experience and training in corporate law. These companies are geared to sell you something, not to assist you in carefully selecting the right corporate entity. Choosing the wrong corporate entity can cost you hundreds of thousands of dollars in extra taxes and can fail to protect your assets. It is so crucial to make the right choice.

Solution: Corporate Direct is owned and operated by lawyers, Our staff is trained to work with you to select the correct corporate entity, be it a C corporation, S corporation, LLC or LP, for your specific situation.

2. Creating Too Many Entities

Problem: Many incorporating companies are staffed by commissioned sales people. Their goal is to sell you as many entities as possible in order to earn a higher commission. We have seen situations where as many as six entities have been formed where only one was needed. Creating too many entities is costly upfront and costly on an annual basis.

Solution: Our staff is trained to protect you with the right amount of entities, not an overabundance of them. Our staff is not on commission and thus has no incentive to sell you more than you need.

3. Paying Too Much Money

Problem: Many companies will lure clients in with promises of low cost incorporations only to have high pressure sales people upsell them into products and services they do not need or want. We have seen cases where services that should have cost under $1,000 have been inflated to over $10,000 in fees. The clients may never know they have been cheated, or learn only when it is too late.

Solution: Corporate Direct charges a flat fee per entity and provides you with an upfront statement of what your specific strategy will cost. There are never any hidden fees or surprises.

4. Bogus Office Packages

Problem: Many companies will tell you that state law requires you to have an office in your state of incorporation, for example, Nevada. They will then sell you on a $3,000 annual office package to keep you in compliance. In truth, there is no such law requiring a fully staffed office and you have been ripped off for $3,000 a year.

Solution: Corporate Direct does not sell bogus packages. If you need mail forwarding and the like we can assist for as little as $360 per year. But we will not misrepresent state law to take money out of your pocket.

5. Incomplete Formations

Problem: Many companies will file articles with the state and then only provide you with forms to fill in for the bylaws, minutes, and stock certificates. Do you know how to fill in these forms? Will they ever be filled in once you receive them? Of course not. And by not having complete documents you open yourself to having the corporate veil pierced and thus exposing all of your personal assets to creditor claims.

Solution: Corporate Direct provides a complete formation package in your own corporate binder. All of the bylaws, minutes, and certificates are completed and you are protected.

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The Series LLC

July 22nd, 2008

The Series LLC is supposedly designed so that by setting up (and paying the fees on) one asset-protected LLC you can protect a number of properties in separate series within the one LLC. A graphic example follows:

1. ABC, LLC (a Series LLC)

a. Series One (duplex)          b. Series Two (fourplex)

The supposed benefit is that if there is a claim against the duplex in Series One a creditor could not reach the fourplex in Series Two. It is in a separate asset-protected series the promoters will claim, and therefore can’t be reached.

There are several problems with the series LLC. The first is, conceptually it doesn’t make sense. If you form one entity and it is sued, all of the assets within that entity are exposed - whether they are in a separate series (or buckets or whatever else the promoters use to describe them) or not. Significantly, there is not one court case extending asset protection to assets held in a separate series. I personally do not want to put my assets into an entity and hope for the best in a future court ruling. By using separate LLCs we have the certainty that assets in a remote LLC will not be exposed to claims brought against a target LLC. As mentioned, the series LLC has been sold as a state-fee-saving device. By using a series LLC holding, for example, four assets, it is claimed that you only have to pay one filing fee instead of the four fees for the four separate LLCs. That argument worked until the state of California decided that each series would be taxed as a separate LLC. So instead of paying just $800 for one series LLC in California you would pay, in our four-asset example, $3,200 for the series - the same as if you’d used four separate LLCs with greater certainty of protection. While not every state is as aggressive a tax collector as California, you can be certain that some will follow suit and charge a filing fee per series.

There are other issues surrounding the various unknowns posed by the series LLC. Will the supposed “internal liability shield” of the series LLC be respected in states that do not have series provisions? No one knows. In a bankruptcy of one series would a court consolidate all of the various series into the parent? No one knows. But you can be certain that by forming separate LLCs you will not face such sleep-losing unknowns.

It is interesting to note that the American Bar Association committee on uniform state laws looked into the series LLC. After reviewing all of the uncertainties and record keeping complexities of the series LLC, the ABA declined to endorse them. When some of the nation’s smartest lawyers take a pass on the series LLC, maybe you should too.

-excerpt from the newly released, revised and updated 2008 version of “Own Your Own Corporation” by Garrett Sutton

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Updated and Revised “Own Your Own Corporation” Just Released

June 30th, 2008

I am pleased to let you know that the new and updated version of my book “Own Your Own Corporation” has just been released. It is available at Barnes & Noble, Borders and your favorite bookstore, online at amazon.com as well as through Corporate Direct and Success DNA.

I would like to thank you, as a reader of the first version, for making the revised edition even better. Your comments and questions have allowed me to better clarify and define the issues affecting entrepreneurs and investors.

So what is new in the revised addition? Well, we have new chapters and discussions on the following important topics:

• Avoiding Corporate and Tax Scams
• Building Business Credit
• Nevada’s new asset protection laws
• Crossing State Line strategies
• Professional Corporations
• Business Tax Deductions
• Wyoming Corporate Advantages
• Series LLCs and why you should avoid them

In the coming weeks I will be writing about certain key elements of the new material. But if you want the straight scoop right now in 240 wealth and nugget packed pages you really should rush out today and buy “Own Your Own Corporation.” We’re shameless, I know, but I do believe that you will benefit from this book.

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Thoughts On Asset Protection

June 25th, 2008

It is no secret that the United States is the most litigious society in the world. That said, it is important to acknowledge that many of these lawsuits are a necessary component of our legal system, and possibly the only means to right many of the wrongs that occur in our society. However, the other side of this is that a certain portion of these lawsuits are based on nothing more than an attempt by one party to generate a financial windfall from a targeted defendant.

To help combat such legally permitted takings was born the concept of Asset Protection, the legal techniques of protecting one’s assets from judgment. Asset protection is based on the principle that since assets held in your name (minus a few exceptions) can be seized by a judgment creditor, assets not held in your name (and subject to charging order protections) are better protected.

Unfortunately, many “experts” who provide asset protection strategies offer services that range from unethical to illegal. Beware of advisors touting Nevada corporations as a way to “hide” from the Internal Revenue Service (IRS) and thus avoid paying taxes. Take for example the recent case against a very high profile asset protection firm located in Las Vegas, Nevada. At first glance, this company appeared to be a legitimate organization providing advice regarding how to protect yourself and your assets from seizure. They had expensive promotional videos and a nice professional looking office. They even had a well known celebrity endorsing their services in a commercial. However, according to a recent court complaint filed by the Federal Trade Commission, if you cracked the shiny outer coating you found that this group was run by two men, one with a suspended law license and the other a convicted felon. Among the many services that this group provided was the option of having their company listed as the sole signatory on their clients’ corporate bank accounts in an attempt to hide corporate owners from the tax liability of the company. This, according to the group’s marketing materials, helped shield their clients from “capricious federal judges and any government agency”.

Improperly hiding your assets from the government is not a sound asset protection strategy for several reasons.

First, if you owe money to the IRS you owe it. Evading the obligation is a crime. You certainly can use a corporation to minimize taxes and should always do so. But to hide assets and evade taxes leads to big trouble. Second, if you are brought to a debtor’s exam, you will be forced to disclose what assets you have under penalty of perjury. A properly designed asset protection plan allows a debtor to disclose what assets they control, without sacrificing the protection of a proper structure. But anyone who advises you to set up a corporation to hide your assets and avoid paying taxes is going to get you into trouble.

Also be wary of anyone who is advising you to shield yourself through the use of “bearer shares”. Bearer shares are corporation stock certificates which are owned by the person who holds them, the “Bearer”, and are not recorded under the owner’s name. Some unethical asset protection advisors tout bearer shares as a means to shield the corporation. The IRS has been aware of the practice for a long time and if they catch you using bearer shares to avoid paying taxes, be prepared to take an extended vacation in a federally funded resort with no pool and plenty of concrete. Any ethical asset protection advisor will tell you that the use of the bearer share is a bad idea and is now illegal even in Nevada and Wyoming. If an expert is telling you otherwise, politely excuse yourself and run away - quickly.

Further, be aware of advisors telling you it is possible to absolutely bulletproof your corporation from liability. No one can make that claim. There is no magic cloak of protection from liability. That being said, a sound asset protection plan is essential. Although you cannot completely bulletproof yourself due to charging laws and new court decisions, you most certainly can and should protect yourself to the best extent possible. With proper planning and advice, you should be able to adequately limit your personal liability and protect yourself from illegitimate claims and unscrupulous individuals.

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