The Annual Report is a document required by statute that updates basic information of the company, including the names and addresses of the officers, directors, and/or managers, as well as the company’s principal business address and registered agent information and address.  This is so there is accurate information on file on how to contact the company and who is authorized to speak for the company. Companies that don’t file their report will be suspended by the Secretary of State, and you could lose your limitation of liability. 

For corporations the fee is $18 (plus a $2 fee) if submitted electronically online and $25 if sent by mail.  They are due when you file your corporate tax return (usually March 15).  For limited liability companies, the fee is $200 (plus a $2 fee if filing electronically). They are due by April 15.  In addition, corporations are required to hold annual meetings of shareholders and directors. Failure to do this could also result in losing your limited liability. 

Professional corporations (PCs or PAs) and professional limited liability companies (PLLCs) are not required to file annual reports, but professional corporations should hold annual meetings of shareholders and directors.

For more information, click on the Annual Report document here.

The first thing I told him to do was to email me from his personal email account and not his current employer’s email account. After that, here was my list of considerations for someone in the conceptual stage:

1. Are you under any kind of non-compete, non-disclosure or non-solicitation agreement? If so, we need to make sure you’re released or non-violating.
2. Come up with a business plan that is as fleshed out as possible. Figure out your start-up costs and ongoing costs. Think about things like software you might need to buy, as well as more mundane things like business cards, web site, email, etc. Good resources for this are the NC Small Business & Technology Development Centers and the Service Corps of Retired Executives (“SCORE”).
3. Figure out a reasonable start-up budget, including where the capital is coming from. How long will it be before the venture is profitable and what will you live on in the meantime?
4. Start brainstorming for names that both identify what you do, but stand out in the marketplace. Potential names should be screened for availability at the Secretary of State level, and cleared from trademark infringement. I advise doing this early, so that you don’t get “married” to a name that turns out to be unavailable.
5. This particular business required the professional to be licensed, so I advised checking to see if additional entity-level licenses were needed beyond the individual license my acquaintance had.
6. Talk to your CPA about LLC/S-corp. From a legal perspective they give the same protections (if properly formed, maintained and capitalized, but there may be significant tax savings in one entity over another.

In my 15 years of practice, I’ve never seen reports go out like this. Companies with one or more missing annual reports are getting letters warning them that their companies will be administratively dissolved if they don’t file the missing reports and fees within sixty 60 days. While this is indeed the law of the state, typically the Secretary of State didn’t send notices until the company was five years late.

Apparently the Secretary of State has conducted an internal audit, and has contacted every company that is in violation of the statute. The notices are not always right, so you need to check your company’s situation directly with the Secretary of State’s web site.

Here are some guidelines to help you in determining if your entity owes an annual report for certain situations.

• LLCs that are formed between January 1 and April 15th of a given year will owe an annual report (and fee) on April 15 of their first year. Many LLCs believe they don’t owe an annual report at all for the first year, so when they file in their second year of operation, the report is counted for the first year, putting the company one behind.
• We have noticed that accountants routinely file annual reports for their corporate clients, but sometimes do not prepare them for LLCs. It is important to ask your CPA what is going on.
• Business Corporations are required to file an annual report at the end of their first fiscal year, even if it is a short year. Many corporations do not file until the end of their second year. This report is counted toward the first year by the Secretary of State, and the company is behind on its annual reports.
• Often a company will file its report, but forget a piece of information or a signature. The filing fee will be kept, but the document will be rejected and sent back with an explanatory letter. If these reports are not corrected and re-submitted, the company will be behind on its annual report.

These notices have been sent to the company’s registered agent. If your registered agent is your attorney, you will receive the notice and instructions on how to fix the problem. If you serve as your own registered agent, make sure you file your missing reports and fees within 60 days, or you will not have a valid entity and could lose your limitation of liability.

The LLC is still considered a relatively new business structure, although it’s been around for more than 30 years. The LLC, like a corporation, is a separate legal entity from its owners. It is formed by filing articles of organization with the Secretary of State. An operating agreement is recommended, but not required. So long as it is properly formed, properly capitalized and properly maintained, it should limit the owner’s personal liability for debts and actions of the LLC to the amount invested in the company. LLCs are owned by members and can be managed either by the members or managers. Neither members nor managers must live in North Carolina. It is

LLCs are desirable because they are flexible as to management participation and allocation of profits and losses, yet they provide limited liability. It is also possible to make an S-election for an LLC so that it is taxed the same way as an S-corporation. This is valuable when the owner wants to treat some profits as dividends to minimize income tax. LLCs and S-corporations (which we will discuss in detail in another post) are similar in that they both pass-through income directly to the owners, but they have vastly different rules on deductions, salary and self-employment taxes.

LLCs do require an annual report to be filed with the Secretary of State.

LLCs are classified as either single-member or multiple-member, and the designation has a big impact on how taxes are reported. Single-member LLCs owned by an individual report all income and expenses on a schedule to Form 1040. Multiple-member LLCs report all income and expenses on a partnership tax return Form 1065. LLCs are responsible for all employment-related taxes and must issue W-2s and 1099s as required. Members of the LLC are subject to self-employment taxes on all earnings or shares of the profits.

When people are starting a business, they are often very confused and overwhelmed as to how to choose an entity, or even whether they need one. Many entrepreneurs look at limiting their legal liability but never consider the tax implications of their business entity. The only entities which provide limited liability to owners (with respect to both tort and contract liability) are S corporations, C corporations, and limited liability companies. Before selecting the entity, it is essential to review the tax implications as well as the legal ones.

In a series of blog posts, I will discuss the various available entities (sole proprietorship, partnership, limited liability company, C-corporation and S-corporation) and some tax issues associated with each.

Sole Proprietorship:
Many entrepreneurs start their businesses as sole proprietorships, where the owner and the business are one and the same (sometimes known as “hanging out a shingle”). This is certainly the simplest way to begin. There are no formalities required. But, if the business is sued or has a hefty tax debt, you are financially responsible. Many risks of having a sole proprietorship can be addressed with insurance.

From a tax perspective, the business profits are reported on the owner’s personal income tax filings under his/her Social Security number, and the income will be taxed at the owner’s standard personal income rate. The owner must file form 1040, and 1040 ES Declaration of Estimated Tax For Individuals. The owner is responsible for paying self-employment taxes. There are many deductions available as well.

Once you hire employees, you should consider forming a limited liability entity to protect yourself from the acts of the employee.

But it has staggering implications for limited liability companies that do not have operating agreements or other written agreements between the members.

For companies without operating agreements, this case means that if one member wants to leave the company, the company must dissolve, liquidate its assets, and pay all members their proportionate share of the proceeds. The other members would have no ability to maintain the company, no matter how small a minority member desired to leave. One dissatisfied member can bring down the house of cards.

As a practical matter, members want to leave companies all the time, and members generally come to a buy-out that saatisfies everyone. But business breakups can be like divorces. The parties become emotional and irrational, the negotiations become personal and nasty, and the former partners do not agree on the buyout terms/price. The only legal remedy available under North Carolina statutes (which will be applied in the absence of a written agreement) is dissolution of the company and distribution of the assets.

An operating agreement is not required under North Carolina law, but every business law attorney strongly recommends one, for situations just like this.

A good operating agreement will supplement the general provisions in the Limited Liability Act with a wide range of business issues such as: the identities of initial members; present and future capital contributions; the respective members’ shares of profits and losses; distributions of cash and other assets; the identity of managers and their powers and duties; indemnity agreements between managers and members; buy and sell provisions among members, including the circumstances under which a member can voluntarily leave or transfer his/her membership interest; and tax treatments of various LLC transactions and operations.

If you have formed a multi-member LLC without an attorney, use this case as a wake-up call to protect yourself with a written operating agreement. The same goes for multi-shareholder corporations without shareholder agreements.

Today, I am following up that post with the view from the attorney’s perspective. Almost every corporate attorney I know has spent hours cleaning up DIY-formations. Here’s a sampling of what we fix:

• Selecting the wrong entity. Probably the number-one question I get is C-corp, S-corp or LLC? Astoundingly to me, people often embrace the recommendations of their brother-in-law, mechanic or neighbor and resist the advice of legal and tax professionals (as in “my brother-in-law has an LLC and says that’s what I need to be”). The differences between the different forms of organization in the eyes of the IRS can result in significant amounts of money. And it is very easy to make a wrong choice or check the wrong box on a confusing tax form.
• Failing to complete all steps of formation (no bylaws or operating agreement, failure to make timely IRS filings, failure to name officers, directors or managers, failure to issue stock or hold an organizational meeting).
• Not obtaining an EIN, getting an “extra” one or getting one when you don’t need it. The rules governing when you do and do not need a new EIN are more complex than any rational person would imagine, unless they work for the IRS. Sorting this out can take hours away from your core business.
• Picking a corporate name that violates a third-party’s trademark. Think about all the time and money you will have wasted in promotional materials, signage and branding if you find out downstream that your business name violates another person’s trademark. You also need to protect your company’s intellectual property (business name, trademarks, copyrights, inventions, trade secrets).
• Not addressing and minimizing other risks (appropriate insurance, good form contracts, good business practices, proper use and treatment of assets, etc.).
• Failing to have buy-out agreements. If you do not have an appropriate operating agreement, or shareholders agreement, you’re saying that you’re perfectly comfortable knowing that one morning you might wake up and find that your new partner is the pothead/slacker son of your old partner.
• Not holding annual meetings. Corporations must hold annual meetings of shareholders and directors to name directors, approve major decisions such as bonuses, benefits, leases, name changes, changes to the capital structure, etc. If you’re audited, one of the first things the IRS asks for is the Corporate Minute Book.

In addition to being able to help you select the proper entity and place of filing (Nevada, Wyoming, Florida, Delaware or the Old North State), good business attorneys will connect you to other reputable professional service providers — bankers, accountants, insurance agents, financial planners and web designers. We know where to send you for free or low-cost business services to make sure your business plan is sound, or to get assistance with Quick Books, marketing, sales or hiring employees. We will make sure your ongoing filings with the Secretary of State are current and that the corporation is holding requisite annual meetings. In short, we take an ongoing professional interest in your success.

I am really interested in the local experiences, good and bad, with attorneys and DIY formations.

If keeping up with these types of tax deadlines is a thorn in your side, difficult, stressful, or you never seem to get around to it, you may want to hire a payroll service, such as PrimePay or Paychex. I know if I ran my own business, this would be one of my first phone calls. Not only would I have more time to spend on the things I love in my core business (advising clients, drafting legal documents, blogging), but many payroll companies will indemnify your company for penalties and interest caused by their mistakes in making your tax filings and withholdings. This is a good way to minimize risk for tax issues.

You may not realize that even if you have formed a corporation or LLC to minimize your personal risk, you may be personally liable for payroll withholdings that are not properly paid to the IRS, or business taxes not properly paid to state governments. The FICA and FUTA taxes are required to be withheld on behalf of an employee, and are considered held in trust by the employer for benefit of the United States. Shareholders, officers, directors or employees who have authority to decide the order of bill paying and/or have check-writing authority can be held personally liable for withholdings that are not properly paid to the IRS. There can be a 100% “trust fund penalty” against the “responsible person.”

If you are having trouble paying your bills, we strongly advise paying all taxes in full first. If you can’t, contact your accountant or attorney and negotiate up front with the IRS or Department of Revenue. You can typically get a payment plan to catch up without penalties if you disclose early. Once you are behind, it is more difficult to negotiate a solution.

That’s my 2 ¢. What tax advise to the small business owner readers have for their peers?

Not everyone realizes that business owners are able to file Articles with the North Carolina Secretary of State on their own without an attorney. In addition, there are many services around that can help entrepreneurs form corporations or limited liability companies (LLC). These include online services, forms from books/guides sold in office supply stores, and online forms available from the Secretary of State.

So, do you really need a lawyer to form your corporation?

Yes. Well … maybe…

Let me ask you some questions: Should you form a C-corporation, an S-corporation or an LLC? What do you do after you file your articles? What assets should be transferred into the company and how do you do it? What do you need to do to maintain your limited liability? If you don’t know, or you don’t understand the differences between the available entities, you probably shouldn’t form your own corporation.

If you don’t know, none of these cost-saving services are going to be able to tell you; that’s unauthorized practice of law. They can tell you what’s on the menu, but they can’t recommend what to order. And the problem with a bad choice is not mere indigestion. Setting up your business entity incorrectly or incompletely can lead to tax penalties, unprotected personal assets, no limited liability and lost peace of mind.

Forming an entity without legal counsel works best for single-member entities that don’t expect to bring in additional owners or outside capital, hire employees or set up multiple locations (particularly multi-state locations). It may also make sense to set up your own entity if you had an attorney set up a prior entity, and you are following a similar business model, with the same people as before, and nothing has changed in any of their lives. In reality, of course, every deal is different, people change, laws change, and the structure that you used last year may not be the best structure this year for this situation.

What an attorney adds.

While many people have used these services and are happy with the results, almost every business lawyer I know has a story (or two or three) about incomplete, incorrect or ill-conceived formations done by clients “going commando.”

If you plan to raise money from outside investors, hire employees, open multiple business locations, pay only those taxes that you really owe, or if your business is in a highly regulated field, you absolutely need the services of a competent business attorney. By the time you fill your online shopping cart with your best guesses, you are getting close to what you’d pay for an attorney…and you are getting a lot less for your money the online route.

In addition to being able to help you select the proper entity and place of filing (Nevada, Wyoming, Florida, Delaware or the Old North State), good business attorneys will connect you to other reputable professional service providers — bankers, accountants, insurance agents, financial planners and web designers. We know where to send you for free or low-cost business services to make sure your business plan is sound, or to get training on Quick Books, marketing, sales or hiring employees. We will make sure your ongoing filings with the Secretary of State are current and that the corporation is holding requisite annual meetings. In short, we take an ongoing professional interest in your success.

Bottom-line: if the initial organization is not done correctly and completely, or if you choose the wrong form of entity or state of incorporation, the costs to unravel the errors greatly exceed the savings of “doing-it-yourself.” As they said in Ghostbusters, “Who ya gonna call?!”

If you have decided to form your own entity, particularly using an online service such as Legal Zoom, The Company Corporation, BizFilings, etc., a couple caveats:

1. As with any significant online purchase, research the vendor. Find people you know who have used these services personally (ask around on Facebook, LinkedIn, or Twitter) and ask about their experience. Check with the Better Business Bureau and the NC Department of Justice for complaints on file. What are your options if things go bad? Can you get your money back?

2. This may not be the time to go with the cheapest alternative. The low rates advertised are often “teaser” rates and the companies will try to upsell you at every turn. Make sure you know what you are getting, and most importantly what you are not getting. Understand what you need to have a complete formation, and what comes in each price-point package. How long does it take and how much does it cost to get it faster? By the time you add express services and ala cart documents (shareholders agreement, DBA, tax filing documents), the price may not be that different from an attorney’s fee.

I realize that every profession has its “princes” and its “toads” and the legal profession is no different. There is no shortage of bad experiences with attorneys, and a quick internet search shows no shortage of bad experiences with do-it-yourself strategies. I’d love to hear what has worked and hasn’t worked for you.