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The Single Member LLC Taxed as an S Corporation

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As a single member LLC your entity is considered a “disregarded entity” for federal tax purposes. That means that while you have the limited liability protection afforded an LLC, you are taxed the same as if you were a sole proprietor. All of the profits and losses flow down directly to you as an owner…. Read More

As a single member LLC your entity is considered a “disregarded entity” for federal tax purposes. That means that while you have the limited liability protection afforded an LLC, you are taxed the same as if you were a sole proprietor. All of the profits and losses flow down directly to you as an owner.

One potential downside to this structure is paying the self employment tax on the profits generated by the LLC. However, you have the option of making an S corporation tax election for your entity.

Like a single member or multi-member LLC, an S corporation is considered a pass-through taxation structure.

So why consider the S corporation tax election if they both are pass through entities?

One reason is that by making an S corporation tax election the owner can now make themselves an employee of the entity, pay themselves a reasonable salary (and take note that the IRS is serious that the salary must be reasonable), and take any other profits left over as a distribution. The distributions from an S corporation do not carry any employment related taxes. In comparison all profits in the standard single member LLC setup carry with them self-employment taxes.

While there can be tax advantages to electing to have your LLC taxed as an S corporation, there are limitations on who can be an owner of an S corporation. For example, corporations, partnerships, and nonresident aliens cannot be an owner of an S corporation. Instead, the owners of an S corporation must be U.S. citizens, residents or certain trusts, estates, and tax-exempt corporations (including 501(c)(3) corporations).

To elect S corporation tax status, you must file IRS form 2553. There are limitations for when the election can be made – it must be filed either within 75 days of forming the company or by March 15th to ensure it applies to the current year.

Aspects such as what you must set as a reasonable salary, when the S corporation election will apply, and the added administrative paperwork make filing the S corporation election a decision you should definitely run by your CPA or another tax expert. Simply making the election to avoid self-employment taxes can be an endeavor you’ll later regret as it does not make sense for all single member LLC owners.

If you have questions about forming a single member LLC, we recommend TRUiC’s guide HowToStartAnLLC.com or please don’t hesitate to contact us at info@bendlawoffice.com, or at (415) 633-6841.

Disclaimer: This article discusses general legal issues and developments. Such materials are for informational purposes only and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal advice on any particular set of facts or circumstances. 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 article.

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The Friends and Family Investment Round

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As the saying goes: your network is your net worth. For many startups that are just starting to raise capital, friends and family are the best source of funding. However, securities laws both at the state and the federal level require a startup issuing securities to either register the offering with the SEC and the… Read More

As the saying goes: your network is your net worth. For many startups that are just starting to raise capital, friends and family are the best source of funding. However, securities laws both at the state and the federal level require a startup issuing securities to either register the offering with the SEC and the state, or find an exemption that allows the startup to complete the offering without a great deal of regulatory compliance work.

The big hurdle with the friends and family round surrounds the idea of accredited investors. For many founders their network is full of contacts who believe in their vision, but do not fall into the definition of an accredited investor. To compound things further, many rules require increased disclosures, such as audited financials, if the startup will allow non-accredited investors into the round (see Rule 506). If a large chunk of friends and family round is chewed up with legal and accounting costs, the whole ordeal starts to become more of a hassle then it’s worth.

This post explores two viable options that allow a California company to raise capital from friends and family—some of which who are non-accredited investors— without the large burden of legal and accounting costs.

The two options we’ll analyze are SEC Rule 504 and SEC Rule 147, both of which require a California startup to also consider Section 25102(f) of the CA Securities Code.

Rule 504

Of the two ways Regulation D allows a company to accept investment from non-accredited investors, Rule 504 is the more practical. Rule 506 allows a startup to include up to 35 non-accredited investors, but you must provide the investors with the same information as is provided in a registered offering. This requirement generally makes it too costly to conduct a small raise from friends and family.

Under Rule 504, a startup can raise up to $1 million over a twelve month period, and you can accept investment from non-accredited investors without the information disclosures. The two things to factor into a Rule 504 raise are:

  • No general solicitation of the offering is allowed; and
  • Unlike Rule 506, which preempts state registration requirements, Rule 504 does not.

Therefore, if an issuer relies on Rule 504 they must find a state securities exemption to keep the compliance cost at a minimum. For a CA startup this is where 25102(f) comes in.

CA Rule 25102(f)

Pursuant to 25102(f) a company can sell securities to an unlimited number of accredited investors and company executive, and up to 35 non-accredited investors, as long as the unaccredited investors satisfy one of the following stipulations:

  • The investor has a preexisting personal or business relationship with the company or its principals/founders; or
  •  The investor has the ability to protect their interests due to their financial experience or the fact that they have experienced professional advisors.

Additionally, in order for the transaction to be compliant with 25102(f), all purchasers must state in writing that they are purchasing for their own account, the offering must not be advertised to the public, and you must file a 25102(f) exemption notice with the CA department of business oversight.

Speaking generally, the idea of a preexisting person and/or business relationship is to allow the investor to evaluate the character, experience and circumstances of the person with whom the relationship exists. As for financial experience, the rule is looking to see if the investor has previous experience investing in these types of offerings, and/or has experience operating or working with a similar venture.

For a first time startup it is all but imperative that the analysis of a pre-existing personal or business relationship and financial experience of the non-accredited investor be analyzed with the assistance of legal counsel. Unfortunately there is not a black and white rule for either, and the experience of a lawyer can go a long ways to protect the startup from downstream issues.

Intrastate Exception

The second federal exemption to consider (and remember, whenever you satisfy a federal exemption you must also consider state rules, such as 25102(f)) is the federal Intrastate Exemption. The federal Intrastate Exemption exempts “any security which is a part of an issue offered and sold only to persons resident within a single State or Territory, where the issuer of such security is a person resident and doing business within or, if a corporation, incorporated by and doing business within, such State or Territory.”

The goal of this federal exemption is to allow an a company who is doing business primarily in the one state to offer securities to investors in the same state without extensive regulatory compliance. This safe harbor rule is intended to make it feasible for startups to complete an offering to accredited and non-accredited investors provided some key factors are met.

To comply with Rule 147 the CA company must satisfy the following**

  • The startup must be incorporated in CA and its principal office must be in CA
  • 80% of the startup’s gross revenues and assets are in CA
  • The proceeds from the raise must be used for services or property in CA
  • Cannot offer the securities to non-residents for a period of nine months from the date of last sale and for the nine-month period all resales must be to CA residents
  • Securities must contain a legend evidencing that the securities have not be registered under the Securities Act and setting forth other limitation of resale, transfer and written confirmation of the purchaser’s residence

**Rules discussed at a high level, a longer discussion with legal counsel is necessary to ensure compliance with all of the Intrastate rules.

Just like Rule 504, if the Federal Intrastate Exemption applies the startup must now consider state rules. For CA startups, the rule generally relied upon is 25102(f) as discussed above.

Conclusion

A key consideration: just because you can take money from friends and family members who are not accredited investors doesn’t mean you should. With all startups there is a high chance of failure. For the sake of your relationships, and for legal reasons, it’s a good rule of thumb to only take investment from someone who can bear the risk of loss. The more likely it is that loss of the investment would be a significant hit to the investor’s savings, the more likely it is to damage the relationship and potentially cause legal trouble (such as claiming fraud or misrepresentation).

Completing a friends and family raise can be critical to your success and also very exciting, but it’s not without its traps. You should always consult an attorney to ensure that you’re taking the right steps to set you up for success.

Disclaimer: This article discusses general legal issues and developments. Such materials are for informational purposes only and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal advice on any particular set of facts or circumstances. 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 article.

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Restricted Stock and Rule 144

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Under the Securities Act of 1933, all offers and sales of securities must be registered with the Securities and Exchange Commission (SEC) unless an exemption applies. One of the conditions of the Regulation D safe harbor from SEC registration is that the issuer must take reasonable care to ensure the issued securities are not bought by… Read More

Under the Securities Act of 1933, all offers and sales of securities must be registered with the Securities and Exchange Commission (SEC) unless an exemption applies. One of the conditions of the Regulation D safe harbor from SEC registration is that the issuer must take reasonable care to ensure the issued securities are not bought by Section 2(a)(11) underwriters. If a shareholder’s resale of stock is considered a “distribution,” the shareholder is considered an underwriter. Therefore, including a restrictive legend on securities helps establish that the issuer took reasonable care to comply with the conditions of Regulation D.

It is possible for shareholders to resell their securities in a way that would jeopardize the issuer’s original exemption from registration. One way for a startup to create mechanisms to prevent this is a stock legend. Thus, when a security is initially issued in an unregistered transaction, the company will typically include a restrictive legend on the security to:

  • Identify the restricted nature of the security;
  • Make clear the shareholder’s inability to freely resell; and
  • Demonstrate the company’s attempted compliance with the exemption requirements.

When it comes time for a holder of shares to consider selling, the same principle of finding a security exemption for an unregistered offering will apply and most holders rely on the safe harbor of Rule 144. If the shareholder resells its shares in accordance with Rule 144, the resale is considered exempt from registration under Rule 4(a)(1) of the Securities Act.

For questions about resales or ensuring that your offering is compliant as an unregistered offering, please contact us at info@bendlawoffice.com or (415) 633-6841.

Disclaimer: This article discusses general legal issues and developments. Such materials are for informational purposes only and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal advice on any particular set of facts or circumstances. 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 article.

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Attracting Talented Employees

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It takes a lot of effort to attract talented individuals to join your team. To help ease the process it’s important to start by evaluating what you offer compared to your competitors. Presenting an attractive opportunity is as much about the value package you provide as it is about the work and culture. To help… Read More

It takes a lot of effort to attract talented individuals to join your team. To help ease the process it’s important to start by evaluating what you offer compared to your competitors. Presenting an attractive opportunity is as much about the value package you provide as it is about the work and culture.

To help you think through some of these factors we’ve broken this post into two parts. Alex King of Bend Law Group will discuss equity compensation, and Mark Lutton of TriNet will bring it home with a brief discussion about Medical Benefits and the importance of implementing the right “strategy” for your company.

Incentivizing Employees with Equity Compensation

By Alex King, Bend Law Group, PC

When you’re a startup, it’s important not to overlook the equity compensation aspect when filing the certificate of incorporation. Most businesses don’t grant stock options or seek venture capital as their options continue to grow and expand. However, because a startup will seek to scale and grow, we strongly encourage our clients to authorize 10,000,000 shares when they file the certificate of incorporation.

Now you may be saying, “but couldn’t we obtain the same results just sticking with 1,000?”  Yes, you could! But unfortunately people (employees/consultants/directors) like to have a large number of stock even if the percentage of the company would be the same. 50,000 stock options sounds better than 5 even if they mean the same ownership percentage of the company, and we cannot discount ego and vanity when people are comparing an offer within their networks. Thus, a key aspect of the long-term planning involves compensating future service provisions through equity compensation.

When planning for the future you must also keep in mind that you cannot sell or give away stock unless the securities are either (i) registered with the SEC, or (ii) are issued pursuant to an exemption. Rule 701 is the federal securities law exemption for compensatory equity issuances.

When creating an equity compensation strategy, here are a few key components to consider:

1. Disclosure Requirements

Rule 701 requires issuers to provide the service provider with a copy of the equity incentive plan.

2. Understand How the Number of Shares Impacts Future Investment

Keep in mind when deciding how many shares to contribute to the plan that investors will calculate the share price on a fully diluted basis. For example, if the founders owned 6 million shares, and the equity incentive plan had 2 million, the investors would say the fully diluted the share structure was 8m, and not 6m, even if no one had received shares out of the equity incentive plan at the date of investment. Therefore, it’s very important to put only the amount of shares you forecast you’ll need to attract the talent necessary to fulfill key roles.

3. What type of Grant Makes Sense for the Company

An equity incentive plan that authorizes multiple types of awards will permit greater downstream flexibility, even if the company only intends one type of grant at the time of creation.

Here’s a quick breakdown of the two primary awards:

i. Stock Options

A stock option gives the holder the right to purchase shares at a fixed exercise price over a specified period of time. The award may either be an incentive stock option (often referred to as an “ISO”), which can only be granted to employees, or a nonqualified stock option, which is commonly used with consultants and advisors.

ii. Restricted Stock

 Restricted stock is a grant of equity that remains subject to forfeiture until an applicable vesting schedule lapses.

The key difference is that a grant of restricted stock is immediately taxable (unless the service provider pays for the shares) and the service provider may vote and receive distributions on the shares even though they may be subject to vesting.

Furthermore, stock options may or may not be deferred compensation subject to Section 409A of the Internal Revenue Code. The analysis depends heavily on if the option was granted at or above fair market value, and the consequences for failing to comply with 409A are severe. Of Internal Revenue Code Section 409A’s three approved valuations, the two that are most pertinent are (1) independent appraisal, which is done by a professional firm experienced in valuation methods, or (2) a company that has been in existence less than 10 years and does not reasonably anticipate an IPO (or acquisition) in the next 180 days can rely on a valuation performed using Section 409A’s enumerated valuation factors by a person (can be a company employee) with significant knowledge and experience or training performing similar valuations.

What this brief discussion highlights is the importance of following both the SEC and IRS rules for equity compensation. Crafting a proper plan so that you are capable of granting proper equity compensation that competes or exceeds your competitors can be one of the key factors for why a candidate chooses you.

Medical Benefits

By Mark Lutton, HR and Medical Benefits Consultant

As Alex stated, it absolutely takes a lot of effort to attract talented individuals here in the Bay Area and even more to retain them. So how do Medical Benefits play a role in this?

I would submit to any company the answer is all in your company’s “strategy” behind your Medical Benefits offering.

I meet with start-ups on a weekly basis in an effort to help them navigate through all the complexities of having “a” employee, let alone 5 to 100 employees here in the wonderful Bay Area. A question I always start my meetings with when it comes to benefits is this:

“Do you offer medical benefits?”… Sounds like a crazy question to most because what qualified and talented candidate is going to accept an offer from a company that doesn’t offer benefits, right?

So why do I ask this question?

I ask this question because 95% of the time the answer is “yes, of course we offer medical benefits.” That then leads me into my follow-up question, which will always be…. “Why do you offer medical benefits?”

A company’s response to this very basic question and the subsequent discussion it leads to will give me more insight on how I can help them than almost any other discussion we will have.

Allow me to explain.

The 5%:

If I am meeting with the owner(s) of one of these companies and they tell me “We don’t offer medical benefits because we don’t care” (and trust me this happens) I typically will end the meeting because at the end of the day if you don’t care about your employees, then I don’t want to do business with you and I can’t “help” a company at that point. Furthermore, I feel bad for your employees. I digress…

The 95%:

Over the years I have heard a multitude of responses as to why a company offers Medical Benefits. From “because we legally have to offer them” to “my employees are my most valuable part of my business so I take care of them” and everything in between.

But what is right reason for offering Medical Benefits?

In my opinion it is important to understand the “right” reason for offering medical benefits will be unique to each company. However, the “strategy” behind the Medical Benefit Offering is where the focus needs to be.

As a start-up it is imperative that you understand that the power lies in the implementation of your “strategy.” When my team and I work with companies we have to always look at the dynamics of the company. We evaluate the demographics (is it primarily millennials, baby boomers, a blend, etc.), we look at the culture and how it plays into the business as a whole, and from there we begin building and then implementing the “strategy.”

For anyone who has ever had to look or “shop” all the different medical carriers here in California and all the different types of plans and offerings each carrier has, it is overwhelming to say the least. There are literally thousands of plans and a plethora of providers.

That being said, when putting together your “strategy” you will have to understand the following in great detail:

1. The Company Contribution:

First figure out your company’s contribution strategy. How much of the premium are you going to pay? 100% of the premium for the employee and their family? 100% for the employee and 50% for their family? 50% for the employee and nothing for their family? Something I believe is crucial for any company venturing to do this without outside help is KNOW WHAT YOUR COMPETITION IS OFFERING. That piece of information will be your building block for your “strategy.”

Why is that?

Because it is important to understand that just because your competition offers 85% or 100% medical benefits contribution that doesn’t mean the plans they offer make any sense to the talent they are seeking. Your competition could be throwing money out the window because they have a flawed strategy!

For instance, the millennial candidate you may be seeking does not need nor want to pay anything for what a 30-year-old to 50-year-old with a family will require. So paying for that premium for your millennial hire with a 100% contribution from you is bleeding your capital for no reason.

A high deductible plan that costs very little to the company and nothing to the employee per month means a lot to a young professional who may or may not even go to an annual check-up. Don’t underestimate the power of your contribution “strategy.”

2) The Plan Design(s):

When discussing plan designs, given all the carriers and plans available, know that as a small group (new start-up/under 100 employees) your options are expensive and limited with or without a broker (unless you partner with a Professional Employer Organization). So be smart and educated when you choose the plans.

Choose plans that make sense for your company’s culture.

If you are going to hire millennials you probably don’t need to bother with any “Gold” type plans. The high deductible plan mentioned above will absolutely suffice and you can contribute 100% because it will cost you much less and the talent you seek will feel that you are taking great care of them by offering them “free” Medical Benefits.

Please keep in mind this is a very high-level overview of the Medical Benefits “Strategy” but I am hoping that my point will hit home: Know why you are offering Medical Benefits and use your “strategy” to your advantage. Make your “strategy” work for you and make it a tool for attracting the talent you seek. Don’t just let your Medical Benefits offering be your second largest expense—get an ROI on your Medical Benefits by implementing the right “strategy”!

Disclaimer: This article discusses general legal issues and developments. Such materials are for informational purposes only and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal advice on any particular set of facts or circumstances. 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 article.

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Tips & Tricks For Naming Your California Corporation

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When forming a corporation in California, it is important to keep in mind the rules that the California Secretary Of State’s Office uses when reviewing formation filings. You should also look ahead two or three moves ahead, like a chess match, and consider what the U.S. Patent & Trademark Office will consider when reviewing a… Read More

When forming a corporation in California, it is important to keep in mind the rules that the California Secretary Of State’s Office uses when reviewing formation filings.

You should also look ahead two or three moves ahead, like a chess match, and consider what the U.S. Patent & Trademark Office will consider when reviewing a trademark application to protect the name of your business.

Naming Rules When Forming A California Corporation

The California Secretary Of State’s Office has a few quirky rules for naming your California corporation.  Some of the most frequent reasons a filing gets rejected include:

1. Geographic Designation

For purposes of running a conflict check when approving the articles of incorporation, the Secretary Of State’s Office drops geographic designations (place names). 

For example, when reviewing a filing to create “California Sushi Bar Inc.,” the word California would be dropped when evaluating the name and the filing would be rejected if there was already a Sushi Bar Inc. registered. Similarly, a filing for America Sushi Bar Inc. would be rejected because America is also the name of a place.

In contrast, Californian, unlike California, would not be dropped. So “Californian Sushi Bar Inc.” could be approved because Californian is not the name of a place. In addition, American, unlike America, would not be dropped and so American Sushi Bar Inc. could be approved.

To further complicate the geographic designation rule, it only applies to California corporations – not to LLCs.

2. Numbers

In doing its name conflict analysis, the California Secretary Of State’s Office also drops numbers.

For example, “10 Hot Wings Inc.” would be rejected if Hot Wings Inc. was already registered with the California Secretary Of State’s Office.

3. Accents

Neither the IRS nor the California Secretary of State accepts accents above letters (example: Mūsic LLC).

4. “Scream Words”

The Secretary Of State’s Office also has a list of what it describes as “scream words” that will cause a filing to be rejected.

For example, if you file articles of incorporation to form “Californian Sushi Bar LLC Inc.” the filing will be rejected as it has the scream word of LLC in a filing to create a corporation.

5. Names Of Other Entities

Finally, the California Secretary Of State’s Office has separate databases for corporations, LLCs, and LLPs so it could approve a filing to form a corporation with the same core name of an existing LLC.

For example, a filing to create Californian Sushi Bar Inc. might be approved even though Californian Sushi Bar LLC already exists.

That being said, you should also take trademarks into consideration to make sure your company name does not get you in legal hot water.

Trademark Law

You can read more here, but basically you need to take into consideration trademark law when naming your company.

A trademark is a recognizable word, phrase, design, or expression which identifies the source of a good or service. Registering your trademark on the U.S. Patent and Trademark Office’s (USPTO) federal registry provides you with a legal presumption that you are the rightful owner of that mark nation-wide. This means that if you file a claim for trademark infringement based on a federally registered mark, the burden is on the other party to prove they were not infringing.

The two most frequent reasons a trademark application gets rejected are:

1. Likelihood of Confusion

The question of whether another mark presents a conflict to your trademark’s registration is one that is difficult to assess. The test for trademark infringement is “likelihood of confusion.” This is not a quantitative test, and there is no set rubric for which to score or grade your risk. Instead the USPTO looks at several factors and weighs the totality of the situation, with the most important factors being (a) the relation between the goods or services; (b) whether the goods or services compete; and (c) the similarity of the marks in terms of their appearance, meaning and sound.

2. Merely Descriptive

Another common objection that the USPTO cites against a trademark application is that the mark is “merely descriptive” of the goods and/or services with which it is associated. The USPTO is hesitant to provide trademark protection to descriptive aspects of a trademark, in part because of the belief that one party should not have a monopoly over a widely used word or phrase.

You can learn more about how Bend Law Group helps businesses with their trademarks and brands at the Bend Law Group Trademarks website, www.blgtrademarks.com.  Please don’t hesitate to contact us at info@bendlawoffice.com or (415) 633-6841.

Disclaimer: This article discusses general legal issues and developments. Such materials are for informational purposes only and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal advice on any particular set of facts or circumstances. 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 article.

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Starting a US Company as a Non-Resident

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If you are a non-US citizen or company considering opening a business in the US, there are three primary considerations: (1) U.S. Immigration visa requirements, (2) the legal structure of your business, and (3) how it will impact your personal taxes. To help analyze these three factors we’ve brought in an immigration attorney and a… Read More

If you are a non-US citizen or company considering opening a business in the US, there are three primary considerations: (1) U.S. Immigration visa requirements, (2) the legal structure of your business, and (3) how it will impact your personal taxes. To help analyze these three factors we’ve brought in an immigration attorney and a CPA.

1. U.S. Immigration Considerations

by Dan Roten, a partner at Kaiser and Roten

There are three primary immigration options for starting and running a business in the U.S.

  • E-1 Trade Visa/E-2 Investor Visa

The E visa category allows foreign nationals who are citizens of treaty countries to start businesses in the U.S. There are two types of E visas. The E-1 Visa is for foreign nationals who engage in substantial international trade of goods, services, or technology between their home country and the U.S. The E-2 Visa allows foreign investors to direct and develop a U.S. business in which the investor has either already invested or is in the process of investing substantial funds. E visas are valid for 5 years and E visa holders are admitted to the U.S. for two year periods. The foreign national can renew the E visa indefinitely as long as they continue to maintain an E business in the U.S.

  • L-1 Multi-national Transfer Visas

The L-1 Visa enables foreign companies to transfer managerial, executive, and specialized knowledge employees to a U.S. subsidiary, affiliate, or branch who have been employed at the foreign company for at least one year. If the foreign company wishes to open a new U.S. branch, affiliate, or subsidiary, immigration laws allow for the transfer of one managerial or executive employee to open and manage the new U.S. entity through the initial start-up phase.

  • EB5 Job Creation – Permanent Residency Visa

The EB5 program allows for permanent residency in the U.S. (Green Card) for foreign nationals who invest $1 Million in a new U.S. commercial enterprise (new is considered any business formed after 11/29/1990). The $1 Million investment must directly or indirectly create 10 full-time jobs for U.S. citizens or lawful permanent residents. The foreign investor is given a conditional two-year green card based on the investor’s business plan and then must place all funds at risk and create the required jobs within the two-year conditional period. Once Immigration is satisfied the funds have been invested and the jobs created, the conditions on permanent residency will be removed.

2. The Legal Structure

by Alex King of Bend Law Group, PC

Depending on the state you incorporate in and the type of business you plan to operate, there can be a myriad of options for incorporating your business. The two most popular options are the Limited Liability Company (LLC) and the Corporation. Why do some entrepreneurs choose to form an LLC instead of a corporation, and vice versa? Below are some considerations to help you decide what type of entity might be the best fit for your business.

  • Ownership

The owners of a corporation are shareholders, while the owners of an LLC are members. An LLC is much more a product of contract law, while a corporation is a child of statute. Therefore, it is much easier to create separate classes of ownership within an LLC operating agreement because you can draft the agreement to fit the desired ownership structure. However, unlike a corporation, it can be much harder to set up an equity incentive plan that includes stock options within an LLC. For many startups, especially tech startups that rely on equity compensation to attract talent, this can be a major hindrance.

  • Corporate Formalities

Unlike a corporation, an LLC does not have to hold regular meetings and keep corporate minutes, which reduces the paperwork of maintaining your entity. A corporation must hold annual shareholder and board meetings to elect the board of directors and appoint corporate officers. In California, an LLC must file a statement of information with the Secretary of State every other year, while a corporation must file a statement of information every year.

  • Management

An LLC’s members or managers can manage the company. In contrast, a board of directors handles the management responsibilities, while the corporate officers handle the day-to-day operations.

  • Distributions

A corporation must allocate its distributions in proportion to each shareholder’s ownership share. An LLC, on the other hand, does not necessarily have to allocate its profits or losses in proportion to each owner’s membership interest. Instead, the LLC’s operating agreement (which is subject to certain IRS restrictions against negative capital accounts) can determine the distributive share of gains, losses, deductions, or credits (often referred to as “special allocations”), provided these distributions have “substantial economic effect.”

  • Investment

Entrepreneurs hoping to achieve venture seed funding typically choose the Delaware Corporation. Venture capital firms won’t automatically screen out businesses that are not incorporated in Delaware, but they prefer it due to its friendly corporate governance benefits, ease of dealing with the DE secretary of state, and well known and predictable corporate laws. Furthermore, investors prefer the corporate structure because they often are prohibited from investing in an LLC, which is taxed as a partnership. They prefer a structure that allows the company to freely grant equity compensation to talented new hires without the added hassle that comes with an LLC structure. (For additional Delaware considerations you can check out these two blog posts, here and here.)

3. Taxes

by Chun Wong, principal at Safe Harbor LLP

There are many tax considerations for a non-US citizen holding ownership in a US entity. Here are a few of the big ones.

  • Type of Entity

U.S. business entities are generally classified for U.S. tax purposes as corporations, partnerships, or disregarded entities. Corporations are subject to income taxes themselves (the dreaded “double taxation”). The income of partnerships and disregarded entities (“pass-thru entities”) is generally taxed directly to the owners of those entities.

  • Income Taxes (Federal & State)

U.S. businesses are generally subject to U.S. federal and state income taxes. Federal corporate income taxes are imposed at graduated rates up to a maximum rate of 35%. State corporate income taxes range from 0% to 12%. State income taxes are generally only due to states in which the entity is doing business. Individual federal income taxes are imposed at graduated rates up to 39.6%, and state rates for individuals range from 0% to 13.3%. Individual income taxes are generally imposed on individuals who own interests in pass-thru entities (such as a Limited Liability Company).

  • Withholding / Branch Profits Taxes

The U.S. imposes a 30% withholding tax on certain types of payments to non-U.S. persons (such as dividends, interest, rents, and royalties) and on the U.S. branch profits of foreign corporations. These 30% taxes are generally a second level of U.S. tax (in addition to income taxes).

  • Estate & Gift Taxes

The U.S. imposes estate and gift taxes on nonresident aliens that own property situated in the U.S. For U.S. estate tax purposes, shares in a U.S. corporation are treated as situated in the U.S. Importantly, the estate tax exemption for nonresident aliens is only $60,000 and there is no gift tax exemption for nonresident aliens. There are far fewer estate and gift tax treaties. However, to the extent they exist, they can reduce U.S. gift and estate taxes.

  • State Sales Taxes

Many U.S. states impose sales taxes on goods sold in their state. The threshold of activity that requires a seller to withhold on sales into a state can be quite low. Each individual state must be analyzed to determine whether sales taxes must be withheld.

  • Treaties

Income tax treaties with the U.S. can reduce or eliminate U.S. withholding taxes. Treaties may also prevent U.S. income taxation altogether if a foreign business does not have a permanent establishment in the U.S. Income tax treaties do not apply to the individual states.

  • International Tax Compliance and Organizational Structures

Along with the complex domestic tax issues, there are often even more complex U.S. international tax issues for both outbound and inbound transactions. In choosing the optimal entity choice, international investors or business owners must always align legal, tax, and accounting structures to avoid adverse consequences of foreign-owned U.S. entities, and U.S. companies must also be cognizant of foreign-owned corporations (CFCs). Proper structuring or organization can also create benefits such as deferral of tax and optimal utilization of foreign tax credits or even avoiding triple taxation in some cases. Some of the more common terms of description for U.S. international tax include: controlled foreign corporations, foreign partnerships, FBAR, FATCA, Passive Foreign Investment Company’s (PFICs), Interest Striping, FIRPTA, and anti-inversion. The common descriptors contain many traps and pitfalls for the unwary. Obtaining the advice of attorneys and well-versed tax advisors in advance will often, if not always, result in more beneficial outcomes and eliminate or minimize adverse consequences.

As you can see, one size does not fit all. Crafting a strategic entity can mean a world of difference as your business begins to take off. With so many considerations, it can be immensely helpful to schedule a consultation with each expert as you plan your US company.

Disclaimer: This article discusses general legal issues and developments. Such materials are for informational purposes only and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal advice on any particular set of facts or circumstances. 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 article.

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A Closer Look at Title III Equity Crowdfunding

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With Title III equity crowdfunding finally taking effect this month it’s worthwhile to take a peek into what a startup may face in costs to execute a successful raise. One important thing to keep in mind is that this analysis is based on my exposure to only a limited number of portals. The numbers and… Read More

With Title III equity crowdfunding finally taking effect this month it’s worthwhile to take a peek into what a startup may face in costs to execute a successful raise. One important thing to keep in mind is that this analysis is based on my exposure to only a limited number of portals. The numbers and opinions expressed below should be digested through an upfront admission that my analysis may change as time goes on.

As many analysts surmised, the funding portal will handle the bulk of the legal compliance. A Title III funding portal must be registered with the SEC, and the portal must become a member of the national securities association. Thus, the SEC has effectively made the portal the gate-keeper to the public. This means a lot of the compliance work will be handled by the portal, instead of your company’s attorney and CPA.

Areas where an outside attorney can still be helpful include: corporate cleanup in preparation for the raise, organizing the necessary documents and information to complete the Form C disclosure schedule, educating the client on the communication standards that can be used offline when discussing the deal with a potential investor, and the initial application process to use your chosen portal. Therefore, there is still plenty of opportunity to take advantage of an outside counsel’s knowledge and experience, but many of the compliance matters that would be handled by your attorney will instead be handled by the funding portal.

Speaking of a funding portal, it’s helpful to consider the budget you’ll need to engage with one. Generally, the upfront cost should be around $15,000 to $20,000 and it is broken down with $4-7k for the portals legal compliance team, $4-7k for preparing reviewed financials with the portal’s CPA, and $4-7k to setup escrow and the transfer agent to close the deal. However, it’s important to note that those are just the upfront out of pocket costs. In addition to those fees the funding portal will take anywhere from 3-7% of the cash raised, and 3-7% in equity that mirrors what you’re selling through the Title III raise.

We’re still months, and maybe years, away from understanding how this will all shake out, but as you consider different strategies for raising money, please don’t hesitate to reach out to discuss costs, and other implications by contacting us at info@bendlawoffice.com or (415) 633-6841.

If you’re thinking about raising funds in 2016, I encourage you to check out these posts on our website

Disclaimer: This article discusses general legal issues and developments. Such materials are for informational purposes only and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal advice on any particular set of facts or circumstances. 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 article.

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