Should Your California Professional Corporation Elect To Be Taxed As An S Corporation?

In California, certain professions that require a state license are prohibited from forming a limited liability company or a traditional corporation and instead must incorporate as a professional corporation. 1. Advantages To Electing To Being Taxed As An S Corporation. If you do not elect to have your California professional corporation taxed as an S… Read More

In California, certain professions that require a state license are prohibited from forming a limited liability company or a traditional corporation and instead must incorporate as a professional corporation.

1. Advantages To Electing To Being Taxed As An S Corporation.

If you do not elect to have your California professional corporation taxed as an S corporation, the default is for it to be taxed as a C corporation.

As a C corporation, your professional corporation would pay federal taxes on its profits and you would also pay individual taxes if you receive salary, bonuses, or dividends from the corporation.

By electing to be taxed as an S corporation, your professional corporation would instead be a pass-through tax entity, like an LLC or a partnership.  Electing to be taxed as an S corporation may also allow you to pass losses from the business to your personal income tax return, where you can use the losses to offset income that you may have from other sources.

Finally, if the corporation pays you a “reasonable salary,” you may not be required to pay self-employment taxes on any additional corporate profits that are paid to you as dividends as a shareholder in addition to your reasonable salary.

2. Disadvantages To Electing To Be Taxed As An S Corporation.

A drawback of electing to have your professional corporation taxed as an S corporation rather than a C corporation is in a C corporation the cost of the premiums for shareholder benefits, such as insurance coverage, are deductible as a business expense. In addition, the shareholders may not be taxed on the value of the benefits.

Another drawback to electing to have your professional corporation taxed as an S corporation is there are restrictions on who can be a shareholder of an S corporation. For example, S corporation may not have shareholders who are non-resident aliens.

Finally, S corporations may only issue one class of stock whereas C corporations can have different classes of stock that have different rights and liquidation priorities.

3. Conclusion.

You should consult with your CPA or tax professional to make sure being taxed as an S corporation is the best fit for your professional corporation, but for most California professional corporations electing to being taxed as an S corporation rather than a C corporation is likely to provide the most tax savings.

Disclaimer: This article discusses general legal issues, but it does not constitute legal advice in any respect.  No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel in the relevant jurisdiction.  Doug Bend expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this article.

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How Many Shares Should You Authorize For Your Delaware Corporation?

When forming a corporation in Delaware you will need to indicate on the certificate of incorporation the total amount of stock the corporation is authorized to issue.  There are two schools of thought on how best to make this decision: 1.  Only Authorize 5,000 Shares of Stock. By March 1st of each year you will have to file… Read More

When forming a corporation in Delaware you will need to indicate on the certificate of incorporation the total amount of stock the corporation is authorized to issue.  There are two schools of thought on how best to make this decision:

1.  Only Authorize 5,000 Shares of Stock.

By March 1st of each year you will have to file an annual report and pay a franchise tax in Delaware.  The tax is calculated based on the authorized shares for the company by using either the Authorized Shares Method or the Assumed Par Value Capital Method, whichever is less expensive.

The Authorized Shares Method is based on the number of authorized shares and is calculated as follows:

     (i) If the company is authorized to issue 5,000 shares or less the annual franchise tax is $75;

     (ii) If the company is authorized to issue 5,001 to 10,000 shares the annual franchise tax is $150; and

     (iii) for each additional 10,000 authorized shares the annual franchise tax is increased by an additional $75.  The maximum annual tax under the Authorized Shares Method is $180,000.

You may, therefore, decide to authorize the company to only issue 5,000 shares so you pay the minimum amount of Delaware franchise tax each year ($75).

2.  Authorize Millions of Shares.

The second school of thought is to authorize millions of shares, typically 10,000,000 shares.

The rationale is individuals who receive 1,000,000 shares feel like they are receiving something of greater value and may be more motivated than individuals who receive 500 shares, even if the shares represent the same percentage of ownership in the company.

In addition, having more shares provides more flexibility in allocating shares on vesting schedules.

The drawback is in Delaware having more than 5,000 authorized shares results in a higher annual franchise tax.

If you authorize millions of shares, you will most likely calculate the Delaware annual franchise tax using the Assumed Par Value Capital Method.  The calculations under this method can be complicated, but the Delaware Secretary of State’s Office provides a good explanation and  examples of how to determine the tax here.

Please contact us at (415) 633-6841 or info@bendlawoffice.com to discuss how many shares you should authorize for your Delaware corporation.

Disclaimer: This post discusses general legal issues, but it does not constitute legal advice in any respect.  No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel in the relevant jurisdiction.  Bend Law Group, PC expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this post.

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The Top Six Reasons Your Company Should Have Strategic Bylaws

Although California does not require a company to have written bylaws, below are six reasons why every business owner should invest in a strategically thought out set of bylaws for their company: 1.  The Bylaws are the Company’s Legal Backbone. A company’s bylaws provide the legal framework for how it operates, including the number of people… Read More

Although California does not require a company to have written bylaws, below are six reasons why every business owner should invest in a strategically thought out set of bylaws for their company:

1.  The Bylaws are the Company’s Legal Backbone.

A company’s bylaws provide the legal framework for how it operates, including the number of people who may serve on the board of directors, how to call a board of directors meeting, and the officer positions for the company.

2.  What if Your Company Does Not Have Bylaws?

If your company does not have bylaws in place, the laws of California will control how the company is run.  It is much better for the owners to determine how it would like to have the company operate than to rely on the state’s statutes.

It is similar to an individual not having a will or trust.  If they die, the state’s statutes determine how the individual’s assets are distributed.  Instead, the individual should thoughtfully think through how they would like their assets distributed and to set up the legal mechanism to enforce their plan.

Similarly, it is much better for business owners to strategically think through how they would like their company to operate than to rely on the state’s statutes, which might not always be the best fit for the company.

3.  Bylaws Provide Owners With Piece of Mind.

Every company eventually runs into challenges.  It is better to consider some of the potential turning points in your company and provide in the bylaws how you would like for the outcomes of these situations to be determined than to wait to make these tough decisions when interested parties and passions may create the perfect storm for litigation.

For example, what will happen if there is a legal dispute between the owners?  Do you want the company to be tied up in the expense and distraction of litigation or would you prefer arbitration?  What happens if one of the owners dies?  What if one of the owners wants out of the company?

The bylaws present an opportunity to calmly and objectively reflect on these issues before they occur.  It is wiser to answer these types of questions ahead of time and determine what might be the best solutions for your company than to rely on the default rules in the state’s statutes or to try to resolve them when clear heads are less likely to prevail.

 4.  Bylaws Help Protect Your Company’s Limited Liability Protection.

One of the primary reasons to form a corporate entity is to possibly have personal limited liability from the potential business debts and judgments against your company.

If a company does not have bylaws and is sued, a plaintiff could try to “pierce the corporate veil” by claiming the company should not be provided with the shield of limited liability protection because its owners did not follow corporate formalities.

In determining whether to pierce the corporate veil, the court would evaluate a number of factors to determine whether your company is legitimate, including whether you have the proper corporate documents and records.  By not having bylaws, a business owner is risking not being provided limited liability protection if it is sued.

5.  Bylaws Help Avert Misunderstandings Among Owners.

Communication and clear expectations are key to any successful relationship, including the relationship between business owners.  Bylaws clearly lay out how the company will be run, which can be crucial in preventing misunderstandings over how the owners expect the company to be managed.

6.  You May Need Bylaws To Set Up A Bank Account and to get Loans and Insurance.

Finally, if you would like to open a business account or apply for loans most banks will require you to provide a copy of your bylaws.  In addition, insurance companies may require you to provide a copy of your company’s bylaws before providing certain types of polices.

As a business owner it is often tempting to cut corners to lower costs. A strategically thought out set of bylaws should not be one of these cut corners.   Instead, bylaws should be recognized for what they are – one of the wisest investments a business owner can make to ensure the long-term effectiveness of their company.

If you have any questions regarding bylaws or any other business legal issue, please contact us at (415) 633-6841 or info@bendlawoffice.com.

Disclaimer: This post discusses general legal issues, but it does not constitute legal advice in any respect.  No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel in the relevant jurisdiction.  Bend Law Group, PC expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this post.

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