New Company Formation Service Available

Customers for legal services are increasingly segmented, just like customers for any other product or service. Many consumers of legal services like to do things themselves, on their own schedule. In recognition of this fact, we now offer online company formation services for DIY-oriented consumers. You can now form an LLC or corporation online in any state, through our website.

Also, you will get a one-hour consultation with me, where you can ask questions about forming and running an LLC or corporation. Other online company formation services may not provide such an opportunity.

One thing to keep in mind is that this service is limited – you get your company formed, but essential post-formation documents are not included. For example, if you are forming an LLC, you really should have an operating agreement, particularly if you will have co-founders. Similarly, with a corporation, you will need resolutions appointing directors and officers, you will need bylaws, and other post-incorporation documents may be necessary. We can provide all of those, customized to your needs, but they aren’t included in the online formation pricing.

We also offer registered agent services in all 50 states, as well as compliance services in those states where annual report filings may be required (such as Delaware and California).

Ready to get started? Simply go to our Business Formation page.

Will Trump Kill the LLC?

There is an interesting provision in Donald Trump’s tax reform proposal. Specifically, he proposes to lower the corporate tax rate to 20%, while setting the maximum tax rate for LLC’s and S-corps at 25%. In essence, his proposal would penalize businesses that elect a pass-through entity structure over the traditional corporate structure. So the question is, will this kill the LLC?

Of course, this is only a proposal, and given the track record of the current administration and Republican-led Congress, there may be no tax reform at all. Or, something will pass, but whatever it is will differ in key ways from the original proposal. It’s still worth considering whether it makes any sense to have different tax rates for different entity structures, and what effect that will have.

If the differential tax rate does pass, I expect many of my existing clients who have set up LLCs to engage in some serious tax planning. They will need to compare their tax bill at the new 25% LLC rate, vs. what they would pay if they were a corporation. This may lead a number of these firms to convert to corporations, to take advantage of the preferential tax treatment. Even more profoundly, it may lead new entrepreneurs to ignore LLCs completely when starting a new business. The LLC form is only about 30 years old, and it has become wildly popular for most kinds of businesses, but this new tax scheme may kill it.

Let’s keep an eye on this issue.

Why Should I Use You Instead of Legalzoom or Clerky?

“Why should I use you to set up my business, instead of Legalzoom or Clerky? You cost more money.”

I get that question occasionally from clients, and I usually answer by explaining that all those sites do is provide documents, which may or may not suit your needs. You may not know whether the documents are good quality, and nobody is available to explain every single sentence in the documents, much less make changes. I, on the other hand, provide legal services. And those legal services that I provide include advice on what is best for your business, as well as providing customized documentation to ensure that we are meeting your needs.

Well, last week a prospective client asked me that question, and as I started to formulate an answer, I went to the website of the document provider – incorporate.com, to see what it offered. In this case, we were talking about forming a multi-owner LLC. Incorporate.com didn’t specify as to whether the operating agreement was designed for a single-owner LLC or a multi-owner LLC. There’s a big difference in complexity, as well as in the kinds of issues you need to address, so it was a significant area of confusion on the website. Then I notice a convenient live chat function, so I decided to dig deeper. Here’s the transcript, and I think you’ll find it quite illuminating.

Thank you for choosing incorporate.com. A representative will be with you shortly. You are now chatting with ‘Jaron’

Jaron: ‪Hello, how are you?

you: fine, thanks. So I’d like to know, for your LLC formation package, is the operating agreement a single-member or multi-member operating agreement?

Jaron: ‪The operating agreement can go either way

you: Well, which is it?

Jaron: ‪Is this something you are looking to have set up today?

you: maybe

Jaron: ‪It is whatever you need it to be

you: and does it include transfer restrictions?

Jaron: ‪like heir to heir?

Jaron: ‪Or ownership?

you: like a right of first refusal if my co-owner wants to sell to an outside party

Jaron: ‪Yes, you can include that in the operating agreement. We also provide a guidebook with further instruction on that as well.

you: and all of this is the same price, regardless of what I want included? regardless of whether it’s a single-member or multi-member?

you: all for $385.95

Jaron: ‪YEs

you: How many drafts of it will you do for me, to ensure it’s the way I want it?

Jaron: ‪I can also provide priority handling at no extra charge.

Jaron: ‪Yes

you: how many?

Jaron: ‪Let me double check. Bare with me [spelling error his, not mine – another nice touch from the experts]

you: double check on all those questions, please

Jaron: ‪Sure… one moment [long delay]

Jaron: ‪You can supply the operating agreement after writing it out. We provide the template. You can update it at anytime with written consent. The only time there is a fee is if you have a third party update it

you: So you provide a basic template, and I have to make all the changes? You don’t write these in for me?

Jaron: ‪We do not. You will write them up, we will file them internally

you: So the transfer restrictions and all that aren’t in the agreement you provide. I have to write all that up for you?

Jaron: ‪Correct. We file it for you, you provide the structure that you want.

you: What do you mean, you file it? [note: you don’t file an operating agreement with anyone; it’s a contract between the business owners and the LLC]

Jaron: ‪You will supply us with the language and draft of the operating agreement. Once you notarize it and send it in, we can update it to your liking at anytime [another tip – you don’t have to notarize an operating agreement]

you: Well, if I have to write the operating agreement, why do I pay you?

Jaron: ‪We provide the template. If you want to submit it yourself without our template, than I can customize a package for you to save you money without the operating agreement

you: I want the operating agreement, but you told me you could customize it with whatever I want, and now you are saying that you can’t, that I have to provide the customized language. Is that correct?

Jaron: ‪Yes, meaning you can make the operating agreement anyway you want it. There is no structure that you are stuck to.

Jaron: ‪If you need to update or make changes, we can do that. No fee

you: But I provide the language

Jaron: ‪Yes

Jaron: ‪We provide a template. You can use it if you wish

Jaron: ‪Or provide your own language [kind of like going to a restaurant, but bringing your own ingredients and cooking them yourself]

you: One last question. On your website, you say the Ohio LLC filing fee is $125 plus a $5 document retrieval fee. But the LLC filing fee in Ohio is $99. Why the difference?

Jaron: ‪I will get you the breakdown, one moment [long delay]

Jaron: ‪Sorry for the delay

you: Yes?

Jaron: ‪$125 is the LLC filing fee of for Ohio anywhere

you: Not according to the Secretary of State’s website.

Jaron: ‪You will have to go to the Secretary of State yourself to retrieve the documents without the $5 fee in addition

Jaron: ‪Yes I see the $99

you: I’m not talking about that. I’m asking why you charge $125 for the basic filing fee, when according to the Ohio secretary of state website, the filing fee is $99 [note: the Ohio Secretary of State actually lowered the filing fee from $125 to $99 several months ago, something other states should consider doing. I’m talking about you, Illinois, Texas, and Massachusetts]

you: so please explain

Jaron: ‪I am really sorry about the confusion. I am not sure why the fee is more. All of the service companies charge the $125 rate… I honestly do not know why but I will happily discount it for you.

you: No, I’m just concerned that you wouldn’t know what the correct fee is. Aren’t you the experts?

Jaron: ‪Yes, most times there are things like “Walk in fees” that are built into the price. I think that may be the case here but for some reason it is not listed. Most of our state fees include the full breakdown. I am not sure why Ohio does not. I apologize

you: There’s no walk-in fee. Ohio lowered the filing fee several months ago, and you just don’t take the time to ensure that you are charging the correct amount.

So let’s note a few key things from the chat:

  1. The representative wasn’t very knowledgeable. That’s always a troubling sign.
  2. The representative started out by promising that I could get anything I wanted (at that low price), but quickly had to backtrack when I pressed him on the issue. By the time we were done, I was going to have to write the operating agreement myself!
  3. The company’s website was out-of-date when it came to the Ohio filing fees, and when I asked about it, the representative basically made up an answer out of thin air (or pulled it out of his ###, if you prefer). If I hadn’t forced the issue, they would have overcharged me.
  4. The representative was also completely wrong about the $5 document retrieval fee. Some state’s charge to download documents, but Ohio isn’t one of them. This is an unnecessary and dishonest fee, and you shouldn’t have to pay it.

I hope you have a better idea now of what you get with these document services, and why I charge more money.

Follow me on Twitter @PaulHSpitz

End Of Year Corporate Housekeeping

shortcuttingThe end of the year is typically a good time to handle any housekeeping issues. If you have a corporation or an LLC, your state may require you to make some kind of annual filing. Here is a quick overview of the requirements for Ohio, Delaware, Kentucky, and California.

Ohio

You can relax, corporations and LLCs in Ohio do not have to file an annual report.

Delaware

Delaware for-profit corporations must file an annual report and pay a franchise tax. The filing fee for corporations is $50, plus the taxes due upon filing of the annual report. These are due no later than March 1 of each year. The minimum tax is $175, and the maximum tax is $180,000. Taxpayers owing $5,000 or more pay estimated taxes in quarterly installments on the following schedule: 40% due June 1, 20% due by September 1, 20% due by December 1, and the remaining 20% due March 1. There is a franchise tax calculator available here for figuring out your tax obligation.

When computing your Delaware tax liability, keep in mind that there are two alternate methods: the authorized shares method, and the assumed par value capital method. They produce very different results. Let’s look at the example of a corporation with 10 million authorized shares, par value $0.0001 per share, of which 5 million are issued, and gross assets of up to $500,002. Under the authorized shares method, the tax liability is $75,175. Yikes. Under the assumed par value capital method, the tax bill is only $350. Make sure you try both methods when preparing your annual return.

Delaware LLC’s do not have to file an annual report, but they do have to pay an annual tax of $300. This tax is due no later than June 1 of each year.

Kentucky

Most businesses operating in Kentucky must file an annual report with the Kentucky Secretary of State. The exception is for sole proprietorships. Kentucky will send out a postcard reminder in January to all registered corporations and LLCs. Businesses will then have until June 30 to complete and return the postcard (or file online). There is a filing fee of $15.

Kentucky also imposes an entity-level tax on corporations and pass-through entities (like LLCs and S corporations). This is called the “limited liability entity” tax, or “LLE” tax. The LLE tax calculation is equal to the lesser of 9.5¢ per $100 of the taxpayer’s gross receipts or 75¢ per $100 of the taxpayer’s Kentucky gross profits. The minimum LLE tax is $175. There is a credit available for shareholders and partners of pass-through entities that they can claim on their personal tax returns.

California

In California, corporations and LLCs must file a Statement of Information within 90 days after filing their original articles of incorporation (or registration, in the case of “foreign” corporations or LLCs), and every two years after that. The filing fee is $25, and can be done online. You can find more information on how to file at this link.

In addition, corporations and LLCs in California must pay an annual franchise tax. The minimum annual franchise tax is $800, even if your company has zero revenue. This franchise tax is due by March 15 of each year. Which form you use depends on what kind of organization you have, and how it is taxed. Your accountant will be able to determine the appropriate form.

That’s it for your end-of-year corporate housekeeping. Make sure to mark your calendars if you have upcoming filing obligations. In the meantime, have a happy new year!

A Common Startup Mistake (and how to fix it)

When someone is running a startup company, there are all kinds of pitfalls and potential mistakes. A typical mistake many startups make is incorporating as an LLC, rather than a C corporation. In this post, I will describe why that is often a mistake, and then I will tell you how to fix it. 

There is a common perception that it is cheaper to set up an LLC than a C corporation. That really is not true, however. In Ohio, for example, the state filing fee is the same for each: $125. Also, if you go to one of those DIY legal websites (who, like Lord Voldemort, shall not be named), the charge for handling the paperwork and filing is the same.

There is also a misperception that LLC’s are inexpensive to set up and operate. LLC’s are hybrid entities – part partnership, part corporation. The operating agreement for a multi-person LLC can run to 100 pages, with complicated provisions involving capital accounts, allocation of profits and losses, and other tax-driven terms. Also, while LLC’s give you a lot of flexibility in setting up how you want to run the company, if you fail to specify these procedures in the operating agreement, you will be stuck with the state defaults, which may not be what you want. Many people who try to set up an LLC on their own don’t even bother with an operating agreement, or never pay attention to it. That can lead to losing the liability shield that is a big attraction of having an LLC in the first place. Most LLC operating agreements also do not include the vesting and buyout provisions that a startup company needs, to address the situation where one of the cofounders leaves the company.

One justification for LLC’s that I hear all the time is the mantra of avoiding the dreaded “double taxation.” For the typical startup, however, the risk of double taxation is like the risk of being hit by the planet Saturn. First of all, you need profits at the corporate level that will be subject to taxation. Most early stage startups don’t have any profits (and too many don’t even have revenues). Second, you need to make dividends to shareholders, so that you can suffer that second round of taxation. But startups can’t pay dividends if they have no profits, and tech companies traditionally reinvest profits, rather than pay dividends. Microsoft was almost 30 years old before it paid its first dividend. So in truth, double taxation is more urban myth than reality for startups. If pass-through of losses is important – for example, if the founder is keeping his day job and needs to offset employment income – an S-corporation election may be a viable alternative.

Finally, setting up an LLC can be big mistake for any startup seeking venture capital, because venture capital investors do not invest in LLC’s. Venture capital investors will only invest in C corporations, and they will usually require that the company be incorporated in Delaware. While you can set up different membership classes in LLC’s, they are not as easy to create and do not have the body of law supporting them that C corporations have. Coming to a potential VC investor with an LLC, rather than a C corporation, also sends a signal that you are relatively unsophisticated. Surprisingly, there are some attorneys out there who work with startups, and still routinely set them up as LLC’s. I shake my head at this, as I can’t come up with any reasonable justification other than that they want to charge more fees down the road to fix their mistake.

Luckily, if you have made the mistake of setting up an LLC rather than a C corporation, you aren’t doomed. There is a relatively straightforward fix, but it will cost you more money and could delay a Series A closing. The fix is called a “statutory conversion,” and is a mechanism under state law that allows an LLC to convert into a corporation. An LLC formed in one state, for example Ohio, can even use statutory conversion to convert into a corporation in another state, such as Delaware. When you do a statutory conversion, the converting LLC is, by law, the same legal entity after conversion as before, so it avoids transfer taxes and other negative legal and tax consequences that might result from multiple-entity conversions.

To do a statutory conversion from an Ohio LLC into an Ohio corporation, you will have to file a certificate of conversion with the state of Ohio and pay the filing fees. If you are converting an Ohio LLC into a Delaware corporation, you will have to file certificates of conversion in both states, and pay filing fees in both states. Also, you will need to file a certificate of incorporation in Delaware, and pay the filing fee for that. There also may be some accounting and tax issues to deal with, depending on the startup’s assets and liabilities. Of course, there are legal fees involved as well.

As you can see, forming as an LLC isn’t necessarily the best option for a startup that will be seeking venture capital investment at some point, but it can be fixed. The remedy, unfortunately, will end up costing the startup time and money. This is why it is always better to take the time to do things right at the outset.

Follow me on Twitter @PaulHSpitz