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The most popular forms for new legal entities in New York during recent years have been the "Corporation" and the "Limited Liability Company". A short description of each of these forms follows
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© Dmitry R. Besedin, 2005. This article is intended to provide an overview only, and is not intended as legal advice December 16, 2005 The New York office of our law firm, Besedin Avakov & Sher, LLC, receives numerous inquires from both new and experienced US and foreign entrepreneurs who desire to start a business in New York, but do not know what type of legal entity best suits their purpose, or what legal requirements arise with the establishment of a new entity. Determining what type of legal entity best suits a particular purpose depends on different factors such as the number and legal status of the participants in the new business, the type of activity in which the business will engage, tax considerations, and the like. Receiving appropriate legal and financial advice is critical to making an informed decision on these matters. The most popular forms for new legal entities in New York during recent years have been the "Corporation" and the "Limited Liability Company". A short description of each of these forms follows: Corporation In accordance with the Laws of the State of New York (as well as the laws of other US States) a corporation is an independent legal entity which differs from natural or private persons (people). This approach is the same as that of the Continental (Roman) legal system, which Bulgaria belongs to, which also differentiates between "natural persons" and "legal persons" (legal entities). We insert the term "legal entity" or "legal person" intentionally to emphasize that for all legal purposes a corporation enjoys the same status as an individual: a corporation may enter into contracts, enjoy rights and incur obligations, sue or be sued, and even, in some circumstances, be subject to criminal prosecution. The existence of a legal entity is separate from that of its owners (shareholders) and one of its primary functions is to shield those shareholders from the responsibilities which the corporation takes on. Typically speaking, shareholders of a corporation have what is commonly known as “limited liability”. In normal circumstances the debts and obligations of a corporation can be collected only from corporate assets, and not from the assets of its shareholders. Corporations are formed by filing a Certificate of Incorporation with the appropriate office of the Secretary of State together with the payment of filing fee in the amount that varies depending on the number of shares to be issued. A Certificate of Incorporation may contain the basic provisions that regulate corporate business activity. The other important documents that should be prepared while registering of a corporation are By-Laws (Charter of a corporation) and a Stock subscription agreement. After receiving a filing notice from the Secretary of State a corporation should get an Employer Identification Number through the US Tax Authorities (the IRS, or Internal Revenue Service) and file certain forms with the New York State Department of Finance. It is important that the corporation follow the formalities of corporate governance, by holding meetings of shareholders and the Board of Directors at regular intervals, maintaining appropriate corporate bank accounts, filing of tax reports, etc. It is extremely important to that money and other assets of a corporation be kept separate from the assets of its shareholders to prevent the appearance that this corporation is being used by the shareholders solely to avoid personal responsibility for commercial transactions and personal taxation. Mixing personal and corporate assets could ultimately lead to the application of the “piercing the veil” doctrine, leaving shareholders personally responsible for corporate debts. Taxation is a major area of concern when deciding what form of corporation to choose, and in fact whether to incorporate at all. A corporation formed in New York City has to pay taxes at the Federal and City levels as well as at the State level. Two kinds of corporations in New York with different tax requirements are the "C" corporation and the “S” corporation. The "C" corporation and its shareholders are taxed first at a corporate level, and are then taxed once again after being distributed to the shareholders as dividends. The "S" corporation is not subject to taxation at a corporate level, but instead income is attributed directly to the shareholders who pay taxes on it at their personal rates. The latter corporate structure is recommended for a small business that does not require a complex form of profits and losses distribution between the shareholders. Limited Liability Company - LLC The limited liability company, or LLC, has become a very popular form of incorporation in New York. The reason for this is that the LLC provides limited liability for its members, as in corporations, while the tax structure of LLCs permits its members to avoid the corporate tax loop in a way that is similar to the "S" corporation. LLCs and other companies are registered in similar ways. An LLC is formed by filing Articles of Organization with the Secretary of State together with the payment of a filing fee. The basic document that governs an LLC is the Operating Agreement that is similar to the By-laws of a corporation. It is also a requirement that a notice advertising the formation of the LLC be published in two newspapers designated for this purpose over a period of 6 weeks. Affidavits acknowledging the publications must be filed with the New York Department of State. Until this requirement is met, an LLC does not have the right to be a plaintiff in court proceedings. Other types of entities exist as well, such as the “Professional Corporation” or “PC” as well as the “Limited Liability Partnership”, or “LLP”. Whether these entities or some other is the right choice in a particular situation of course depends on the circumstances. An article of this scope does not allow for a complete treatment of these subjects. General conclusions The creation of a legal entity for the operation of a new business is a critical step which can have very beneficial consequences if done properly. Professional legal and accounting advice should be obtained in order to determine how to incorporate and to draft the necessary documents and agreements to do so. Our comments above describe only some of the most basic differences between the New York LLC and corporation and are in no sense meant to be exhaustive. For example, restrictions apply as to who may form an "S" corporation, including the requirement that a foreigner hold permanent resident status in the United States. The details are extremely important and can have far reaching consequences. A desire to save on professional fees at the stage of business formation may lead to reckless decisions, and lead to far more serious financial losses in the future. Another question that sometimes arises concerns the possibility of disputes between the shareholders of a corporation or the members of LLC, or between these groups and the governing body of a legal entity generally referred to as the Board of Directors. During the operation of an LLC or a corporation disputes may arise between the shareholders or members concerning questions of management, the distribution of dividends, or the division of profits or loss. Shareholders may bring a claim against a Board of Directors which they believe is wasting corporate assets or enters into transactions against shareholders’ interests. Disputes between minor and major shareholders, e.g. when minor shareholders are "pushed out" of the business by major ones, may also occur. When a conflict arises it is necessary, first of all, to carefully examine all the documents of the corporation or LLC which determine the rights and obligations of the members of the legal entity, such as shareholder agreements or operating agreements, as the case may be, as well as to be familiar with the relevant law. The United States has a strong tradition of recognizing shareholder rights and different avenues of legal recourse are available to the shareholder or member whose rights have been violated. It is equally true that solving a problem when it is fresh, or anticipating it at the stage of business formation, increases the chances of finding an adequate solution before too much damage has been caused. |
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