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California Business Entities - To Incorporate or Not to Incorporate

California Business Entities - To Incorporate or Not to Incorporate

California - If you created a business in California it may be within your interest to file for incorporation through the Secretary of State. Corporations provide a business with numerous benefits such as, the ability to attract investors, while at the same time safeguard the business' owners from complications that may arise. The creation of a corporation also allows for the establishment of clear power structure of shareholders, directors, and officers: Shareholders are primary owners of the corporation and are usually not financially liable for any debts incurred by the corporation, directors insure that the shareholder's assets are secure by planning long term goals for the corporation, as well as hire (and fire) officers who perform the day to day tasks for the corporation.

The State of California also allows you to file for incorporation as one of five different entities, listed below: Corporation - An entirely separate taxable entity that is created apart from the owners which helps protect the owner from debts and legal liability that the corporation may incur. Limited Liability Companies - Protects an owner's assets from debts, while allowing allow profits to flow directly to the individual owners where they are taxed a part of their income. General Partnership - Keeps liability on the owners, which are known as partners, but equally distributes any profits or debts to each partner of the business

Limited Partnership - A combination of general partners as well as one or more limited partners who are only liable for debts that are equal to their investment and do not run the business Limited Liability Partnership - Each partner's liability varies and each partner is not responsible for another's misconduct. In California only certain businesses can form these.

What a Corporation Needs to File:

For your business to become a corporation requires a number of documents be submitted and multiple fees must be paid. First your aspiring corporation must submit an Articles of Incorporation, which is a single document that includes: the name of the corporation, the California Corporations Code, and name of the initial agent for service of process among other items. The fee to file the Articles of Incorporation for a company is $100, plus a supplementary $15 if filed by hand. After filing the Articles of Incorporation a Statement of Information must be submitted within a 90 days for a fee of $25 or $20 if you are a non-profit business. This form requires most basic information of your corporation such as location, name, and type of business. However, this particular form must be resubmitted annually by the corporation and bi-annually for a non-profit corporation as failure to do can result in suspension of the corporation. Your corporation is also responsible to have many other internal forms kept in the records at all times. For one your corporation must have an established, agreed upon set of bylaws. The bylaws act essentially as your corporation's constitution of how you will operate. Next is any and all corporate resolutions, which are documents approved by your board of directors on what actions specific individual's are authorized to do. Lastly your corporation must keep minutes in the records, which is documentation of all shareholder and director meetings. Failure to include any of the mentioned documents could be extremely costly to your corporation in a lawsuit.

Types of Corporations:

When choosing to become a corporation your business may select to be either C corporation or an S corporation. The crucial difference between a C or S corporation is how taxation occurs on the business. In a C corporation a separate business entity is created that is owned by the shareholders. Because of this the corporation is taxed on its annual earnings, but your individual shareholders are taxed as well on those earnings that are distributed as dividends. An S corporation is like hybrid business entity. You still create separate legal entity and that offers liability protection to the shareholders, however you pay very low income taxes as only the dividends given to individual shareholders are taxed normally. This can be seen in the different amounts each type of corporation is taxed under the California Franchise Tax Board. For a C corporation in the State of California your annual net income is taxed at a rate of 8.84 percent, with a minimum tax of $800, while as for an S corporation your annual net income is taxed at only a rate of 1.5 percent, with a minimum tax of $800. On top of the state income tax on a C corporation the corporation is also taxed large percentages (varying by income) on the federal level by the IRS, whereas an S corporation is not. Despite the inherent benefits of an S corporation they are difficult to maintain if you are thinking about expanding your business because of the strict requirements set for by the IRS. To maintain an S corporation you must meet the requirements of having less than 100 shareholders at anytime and only have one class of stock. These requirements make an S corporation much more conducive to a small business.

Limited Liability Companies (LLC):

By choosing a LLCs your business will be run similarly to a normal corporation except owners (shareholders) are called members. Members act in the same fashion as a shareholder would in a corporation in that they are generally not responsible for debts of the business, but are not limited to simply a natural person. Members in your LLC can be other partnerships, corporations, or any other business entity. An LLC requires two main documents to be filed with the Secretary of State to be created. Firstly is the Articles of Organization form which costs $70 must be filed. The articles of organization act as charter for your LLC and include mainly basic information, such as the name of business, location, and the managers and members. Secondly a Statement of Information must be filed (which includes much of the same information of within the articles of organization) within 90 days of the articles of organization and resubmitted bi-annually for a fee of $20. Failure to resubmit the statement of information can result in a suspension of your LLC as a California business entity. Along with the mandatory document you submit, there are some documents that must be kept internally in the records at all times, such as the corporate minutes, resolutions, and operating agreement. The operating agreement for a LLC in essence is the same as the bylaws for a normal corporation, in that it lays down a set of rules for how your business will be run. Taxation for an LLC is drastically different than your normal corporation too. For example in LLCs you are not taxed as two separate entities, because of which you would pay no federal income tax as a corporation. What happens in an LLC is any profits made go directly to the members where they are taxed as part of an individual's income. However, the State of California through the Franchise Tax Board still taxes LLCs annual income at a rate of 8.84 percent with a minimum tax of $800.

General Partnerships (GP):

If you choose to incorporate as a GP you will need at least two or more partners that will be held responsible for the profits and liability of the business they run. As such each partner of your business will get a proportional share of the profits or debts that the business may incur. However, this also means that each partner is equally liable for any misconduct another partner may do. Unlike other forms of incorporation a GP does not require any filing of documents with the Secretary of State. In fact any two persons can enter into a GP simply through word of mouth. Because of the lack of tangible legal evidence this leaves of proof of your partnership the filing of a Statement of Partnership Authority with the Secretary of State is recommended. The document's fee totals $70, and creates a binding agreement between you and your partners that can only be terminated with a Statement of Dissolution or a death of a partner. The formation of a partnership comes with tax benefits as it avoids the creation of second taxable entity that occurs when a basic corporation is formed. In GP any profits earned go directly to you and partners, where they are taxed as normal income.

Limited Partnership (LP):

Similar to a GP is a LP requires that you have two or more people join in the creation of your partnership; however these partners are separated into two groups of limited partners and general partners. Limited partners invest in your business and can receive a share of the profits, but do not participate in the actual running of the partnership. Likewise general partners are therefore liable for all financial responsibilities and to manage your business. A LP is required by law (Assembly Bill 339) to have at least one general partner at all times and one limited. Additionally, unlike GPs it is necessary for a LP to file a Certificate of Limited Partnership through the Secretary of State for a fee of $70. The taxation of an LP is not unlike a GP either as only the profits distributed to the partners are taxed. There is one significant difference with the taxation though, and that is that all limited partners must pay an annual tax of $800 to Franchise Tax Board.

Limited Liability Partnerships:

A LLP is like GP as it requires you to have two or more partners to create, but differs in that each partner's personal liability to the company varies. This is to say that you could be more be responsible 70 percent of all debts while your partner is limited to only 30 percent. In California the formation of a LLP is limited only to public accountancy, law, and architecture practices. If your business falls under one of these three categories it may then register to become an LLP by submitting the Registered Limited Liability Partnership Registration form for a fee of $70. Given that LLPs are still partnerships they do not abide to the annual meetings and minutes that normal corporations must, which some consider an advantage. In terms of taxation choosing an LLP taxed like all other forms of partnership, where your business' profits to go straight to your partners and are taxed as part of their individual income like, but in addition to that LLPs are required pay $800 per year by the Franchise Tax Board.