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What Are Your Responsibilities After You Incorporate Your Business? [Guest Post]

Monday, January 03, 2011

Posted by Kristin Oberlander - As an NASE Member, you have access to discounts on incorporation services through BizFilings. If you have questions about how to incorporating your business, our guest blogger, Julie Henningfield, offers some pointers to help you figure out the details. Remember to consult with our small business experts at ShopTalk if you have any additional questions!

You’ve started your business and decided on business structure type to protect your hard-earned assets. It seems the hard part is over.

Wrong.

The demands placed on corporations and Limited Liability Corporations (LLCs) do not stop once the formation documents have been approved by the state of incorporation. Corporations and LLCs face internal and external state-imposed requirements on an ongoing basis. Because the benefits that corporations and LLCs afford their owners are advantages specific to these incorporation types, the business owners must carry out certain responsibilities to maintain these benefits. Falling short of these imposed requirements can result in serious consequences, including the potential loss of the limited liability.

Internal demands
Corporations and LLCs must be accountable for certain formalities when it comes to their internal governing system. The ongoing formalities imposed upon corporations are the strictest. Corporations are required to hold and properly document initial and annual meetings of the directors and shareholders. The importance of consistently undertaking and properly documenting each cannot be repeated enough. There are a number of tools available today, many specifically geared toward small business owners, to help make the process of complying with internal formalities as easy and convenient as possible for business owners.

Internal corporate demands
Ownership interest in a corporation is measured in shares of stock. At the organizational meeting, which is the initial meeting of the directors, the directors issue shares of stock to the initial shareholders to formally document their ownership of the corporation. The issuance of shares should be formally recorded in a stock transfer ledger, which is updated any time shares are issued to or bought back from shareholders.

The officers are responsible for managing the corporation’s day-to-day operations. A corporation’s officers are appointed by the directors, and the initial officers are typically officially appointed during the organizational meeting.

Corporations should also conduct an initial meeting of the shareholders. While the directors undertake the first major corporate actions, the shareholders typically formally approve the incorporation of the company, approve the initial board of directors and also approve all steps undertaken by the directors at the organizational meeting.

Directors and shareholders must conduct annual meetings. At an annual meeting of directors, directors typically approve or reject major business decisions, renew the officers’ terms, and/or appoint new officers. At an annual meeting of shareholders, shareholders typically renew directors’ terms and/or appoint new directors. Management should always document all director and shareholder meetings and actions. Also, all director or shareholder resolutions approving certain corporate actions should be documented and kept with the minutes of the meeting during which those resolutions were approved.

Internal LLC recommendations
LLCs are not required to hold an initial meeting or annual meetings of the members or managers; however, doing so is strongly recommended. It could be advantageous for the LLC to have formal records and documentation of all business decisions, particularly if a management or ownership dispute should ever arise.

Ownership of an LLC is measured by membership interest, much in the manner of a partnership. Having the LLC issue membership interest certificates to all members and recording all transactions in a membership interest ledger is also advisable. Providing certificates to members offers a formal record of their LLC ownership status. It also helps the LLC keep accurate records. Other items of business such as authorizing the opening of a bank account for the LLC can be completed during an initial meeting.

BizFilings, an online incorporation service provider, recommends that LLCs hold annual meetings of the members or managers. As with corporations, major business decisions can be addressed during these meetings. Properly documenting any business decisions made during member and manager meetings is important, and minutes and resolutions from all meetings should be kept with the LLC’s records.

External demands
External requirements are requirements imposed by the states upon corporations and LLCs. These requirements include an annual or biennial state filing and payment of a corresponding state fee.

Nearly all states require corporations and LLCs to file periodic reports with the Secretary of State’s office or its equivalent department. Periodic statements allow states to maintain current information on corporations and LLCs formed or qualified to transact business there. Annual statements are the status quo – but some states have relaxed their rules and require only a biennial statement. In either case, the states typically impose a filing fee along with the periodic statement. The fees vary by state and by entity type, from $1 to more than $200.

Some states also impose a franchise tax. A franchise tax is a tax levied in consideration for the privilege of either forming or qualifying to do business in a state. A franchise tax may be based upon income, assets, outstanding shares or a combination. Put another way, a franchise tax is a tax one pays for “just being there.”

The due dates for annual statements and franchise taxes vary by state. Some states connect these due dates to the anniversary of the corporation’s or LLC’s formation or qualification. Other states set a specific due date for all corporation annual statements and another for all LLCs. Because the periodic filing requirement and annual franchise tax can represent a significant burden and expense, you should research these requirements prior to organizing.

Additional external requirements
What follows is a list of other potential state and federally imposed requirements that may apply to a company:

  • Filing a federal income tax return and paying necessary taxes
  • Filing a state income tax return and paying necessary taxes
  • State franchise taxes
  • State annual statements
  • Payroll tax obligations (such as Social Security, Medicare and unemployment)
  • Property tax obligations
  • State sales and use tax obligations
  • County, city or municipality tax obligations
  • Obtaining and renewing any necessary business permits and/or licenses

Non-compliance consequences
Small business owners often mistakenly believe that ongoing corporate and LLC requirements do not apply to them, or perhaps they feel too busy to properly satisfy these requirements. Failing to observe internal and external requirements can yield dire consequences, such as losing the corporate or LLC entity status recognized by the state and subsequent loss of the limited liability protection afforded to the owners.

If a corporation or LLC is sued and is unable to show that is faithfully followed all corporate or LLC formalities, a judge might rule that the company was operating more in the manner of a sole proprietorship or general partnership. In such a case, the court might sidestep the corporate or LLC status and extend full liability to the entity’s owners.

There are also consequences on the state level that can happen prior to piercing the corporate veil – which refers to the legal theory by which a court will sidestep the liability protection normally afforded by a corporation or LLC and impose full liability upon the owners. When a corporation or LLC does not comply with a state’s annual or ongoing requirements, that company is no longer in “good standing” with the state. Each state has different parameters for what is required before a company falls out of good standing and also how the states handle it. For example, many states impose late fees and interest payments on the outstanding annual statement and/or franchise tax fees. Being out of good standing long enough may lead to administrative dissolution of the company by the state. When the state administratively dissolves a corporation or LLC, all of the benefits of being a corporation or LLC are lost.

It’s imperative to keep the “corporate veil” intact by meeting all ongoing external and internal compliance requirements.

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