|8. Shareholder Agreements
The sole proprietorship is a simple, informal structure that is inexpensive to form. It is usually owned by a single person or a marital community. The owner operates the business, is personally liable for all business debts, can freely transfer all or part of the business, and can report profit or loss on personal income tax returns.
Limited Liability Corporation (LLC)
The LLC is generally considered advantageous for small businesses because it combines the limited personal liability feature of a corporation with the tax advantage of a partnership or sole proprietorship. Profits and losses can be passed through the company to its members, or the LLC can elect to be taxed like a corporation. LLCs do not have stock, and are not required to observe corporate formalities. Owners are called members, and the LLC is managed by these members or by appointed managers.
Partnerships are inexpensive to form. They require an agreement between two or more individuals or entities to jointly own and operate a business. Profit, loss and managerial duties are shared among the partners, and each partner is personally liable for partnership debts. Partnerships do not pay tax, but must file an informational return, while individual partners report their share of profits and losses on their personal return. Short term partnerships are also known as joint ventures.
C Corporation (Inc. or Ltd.)
This is a complex business structure with more start-up costs than many other forms. A corporation is a legal entity separate from its owners, who own shares of stock in the company. It can be created for profit or nonprofit purposes, and may be subject to increased licensing fees and more government regulation than other forms. Profits are taxed both at the corporate level and again when distributed to shareholders.
Shareholders are not personally liable for corporate obligations unless corporate formalities have not been observed. Observing such formalities provides evidence that the corporation is a separate legal entity from its shareholders. Failure to do so may open up the shareholders to liability of the corporation's debts. Corporate formalities include:
- issuing stock certificates
- holding annual meetings
- recording the minutes of the meetings
- electing directors or ratifying the status of existing directors
Corporations should always be assisted by a qualified attorney.
Sub Chapter S Corporation (Inc. or Ltd.)
This structure is identical to the C Corporation in many ways, but offers avoidance of double taxation. If a corporation qualifies for "S" status with the IRS, it is taxed like a partnership: the corporation is not taxed, but the income flows through to shareholders that report the income on their individual returns.
The sales agreement is the key document in buying the business assets or the stock of a corporation. It is important to make sure the agreement is accurate and contains all of the terms of the purchase. It would be a good idea to have an attorney review this document. It is in this agreement that you should define everything that you intent to purchase of the business, assets, customer lists, intellectual property and goodwill.
The following is a checklist of items that should be addressed in the agreement:
- Names of Seller, Buyer & Business
- Background information
- Assets being sold
- Purchase price and Allocation of Assets
- Covenant Not to Compete
- Any adjustments to be made
- The Terms of the Agreement and payment terms
- List of inventory included in the sale
- Compliance with the Bulk Sales laws of the state
- Any representation and warranties of the seller
- Any representation and warranties of the buyer
- Determination as to the access to any business information
- Determination as to the running of the business prior to closing
- Possibilities of having the seller continue as a consultant
- Fees — including brokers fees
- Date of closing