Can I Pay Employees in Stock?

The point of paying employees anything is to give them an incentive to show up for work and give you their best effort.  There are many different forms of compensation.  Employee compensation often includes basic salary, bonus, health insurance coverage, fringe benefits and retirement plan contributions.  All are important.  But if you really want to get your employees thinking like business owners, you may want to consider letting them acquire an ownership stake. 

One way to do this is to give your most valuable employees a stock option.  When an employer gives an employee a stock option, the option agreement should state the number of shares subject to the option, the option price per share, the period of time during which the option may be exercised, applicable transfer restrictions and any other appropriate provisions or restrictions.

Stock options generally come in two basic forms.  One type of stock option is called an Incentive Stock Option (“ISO”).  The other type of stock option is referred to as a Non-Qualified Stock Option (“NQSO”).  An ISO is entitled to special treatment under federal and state tax law and must comply with the requirements of such law.   One of the federal income tax requirements of an ISO is that the option price must be equal to 100% of fair market value at time the option is granted.  For federal and state income tax purposes, the employee does not recognize any compensation income, and the employer gets no compensation deduction, either at the time the ISO is granted or at the time the option is exercised.  Rather the employee recognizes a capital gain (or loss) at such time as the stock received upon option exercise is sold. 

A NQSO is treated differently than an ISO for federal and state income tax purposes.  The employee recognizes compensation income, and the employer gets a compensation deduction, at the time the option is exercised.  The amount of the compensation income recognized by the employee (and the amount of deduction taken by the employer) is equal to the excess of the value of the stock on the date of exercise over the exercise price.  When the stock acquired upon option exercise is sold, the employee will have a capital gain (or loss). 

More about stock options, restricted stock awards, phantom stock and other employee compensation and incentive arrangements will be found in a future blog.  If I can help you set up an incentive or non-qualified stock option plan for your management employees, let me know.  Jsenney@pselaw.com or 937-223-1130

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AND ONE MORE THING.    Have you ever heard of a DISC?  Does your business have significant foreign sales or income?  Does your business sell to other companies that export the final product?  You can reduce the federal income tax rate on such income significantly by setting up a DISC.  Give me a call or email me and ask me how at Jsenney@pselaw.com or 937-223-1130.

How Many Directors and Officers Do I Need to Appoint?

Under the Ohio statute, a corporation is generally required to have at least as many directors as it has shareholders, up to three.  So if there are two shareholders, the corporation generally is required to have at least two directors.  But if the corporation has four or more shareholders, the corporation is only required to have three directors (it may have more). 

Once the shareholders have appointed the directors, the directors generally appoint the officers.  The normal offices include: President, Vice-President, Treasurer and Secretary.  There can be numerous vice-presidents, each in charge of a certain area such as marketing or finance or production.  There can also be assistant officers such as Assistant Treasurer or Assistant Secretary.   If for some reason the President is unable to fulfill his or her duties, a Vice-President generally has the authority to step in.  Similarly, if the Treasurer or Secretary cannot fulfill his or her duties, the Assistant Treasurer or Assistant Secretary can step in.

An officer can hold more than one position.  In a closely-held company, it is not uncommon to see one person act as President and Treasurer.  It is also not uncommon to see a person act as Vice-President and Secretary.  It is somewhat uncommon to see one person act as President and Secretary. 

Under the Ohio statute, no person can act as both President and Secretary unless authorized by the terms of a Close Corporation Agreement.  A Close Corporation Agreement can be used to change the number of directors required, to give one person the authority to hold every corporate office, and/or to otherwise create a governance structure that is contrary to the defaults set forth in the Ohio statute.  More about Close Corporation Agreements will be found in a future blog.

If I can help you incorporate, or put together a Close Corporation Agreement appropriate for your situation, please let me know.  Jsenney@pselaw.com or 937-223-1130.

If you like what you read, forward this to a friend.  Tell them to check it out by clicking on the SenneySays logo.   

AND ONE MORE THING.  A really good way to get your employees thinking like business owners is to give them an ownership “stake”.  You can do this by giving them a stock option or by giving them deferred compensation measured by increases in the value of the business.  Call or email me if you would like to talk about how employee compensation and incentive packages at Jsenney@pselaw.com or 937-223-1130.

Do We Need a Buy/Sell Agreement?

When setting up an LLC or corporation with multiple owners, it is absolutely crucial for the owners to enter into a buy/sell agreement.  In the case of an LLC, the buy/sell agreement is often incorporated into the LLC Operating Agreement.  In the case of a corporation, the buy/sell agreement is occasionally contained in the Code of Regulations or By-laws, but generally is a separate document. 

A well-drafted buy/sell agreement should contain all the agreed-upon rules governing transfer of ownership interests.  Among other things, the agreement should set forth what restrictions apply to transfer of ownership interests, what trigger events require or permit an owner to transfer his or her ownership interests, which party or parties have the right to acquire the offered ownership interests, what price the acquiring party will pay for the offered ownership interests, what payment terms will apply, whether the purchase price in a death or disability situation will be funded by life insurance proceeds, and how disputes as to value or transferability of interests will be resolved.

Without a buy/sell agreement in place, ownership interests are freely transferable.  This can lead to interesting, but not so amusing situations.  For example, if your business partner dies, you could find yourself in business with your former business partner’s spouse.   Things might work out.  Or not.  Why take the chance?  If I can help you put together a Buy-Sell Agreement appropriate for your situation, please let me know.  Jsenney@pselaw.com or 937-223-1130.

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AND ONE MORE THING.  A taxpayer can mix some fun in with a business trip and deduct all of the round-trip transportation costs, so long as the trip was undertaken primarily for business reasons. The cost of lodging plus 50% of the cost of food and drink while on business status is deductible. In addition, if the taxpayer is an employee and is reimbursed for all of his or her business expenses under an “accountable plan” the reimbursement is tax-free to the taxpayer.  Call or email me if you would like to talk about mixing business with pleasure at Jsenney@pselaw.com or 937-223-1130.

What Terms Should be in the LLC Operating Agreement?

 When setting up an LLC, the most important document is the Operating Agreement.  While Articles of Organization must be filed with the State to create an LLC, the Articles normally contain very little information about the LLC.  The Operating Agreement is where all of the rules affecting the members and the LLC are generally found.  A well-drafted Operating Agreement will contain provisions that set forth the relevant rules regarding management of the LLC and voting rights of members, allocation of profits and loss among members, distribution of cash and other assets among members, restrictions on transfer of ownership units, procedures upon termination and liquidation, and procedures for amendment of the Operating Agreement.      

While some situations are similar, no two situations are exactly alike.  Each situation needs to be reviewed, and an Operating Agreement suitable for such situation should be crafted.   If I can help you put together an LLC Operating Agreement, please let me know.  Jsenney@pselaw.com or 937-223-1130

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AND ONE MORE THING.  If you or a friend have invented a new product, or have improved an existing product, you need to be careful to preserve your rights as to such invention or improvement.  To protect your rights, you can seek a provisional patent or a full utility patent.  But you must make an application within one year after the first public disclosure of the invention.  A public disclosure is any disclosure of information about the invention that is made without restriction on the recipient’s right to disseminate such information.  To avoid making a public disclosure, it is important to have every person or entity that will receive information about such invention sign a non-disclosure agreement.  Call or email me if you would like to talk about protecting your intellectual property rights at Jsenney@pselaw.com or 937-223-1130.

Should I set-up More than One LLC?

Many of my clients own and operate more than one business.  Many of my clients own the real estate where their businesses operate.  Many of my clients own multiple pieces of real estate.   In each of these situations I am often asked whether it is necessary or beneficial to set-up a separate LLC to own each of the separate businesses and/or real estate parcels.  The answer is almost always: “it depends.”    

It is generally advisable from a liability shield and asset protection perspective to set-up a separate LLC or corporation to own and operate each separate business.  By doing so the business owner is able to protect the assets of each business from the liabilities of the other business.  If both businesses are run as divisions of a single LLC or corporation, the assets of both businesses will be reachable by the creditors of either business. 

If the business owner also owns the real estate where the business is located, it is also generally advisable to set-up a separate LLC to own the real estate.  In addition to protecting the real estate from claims of creditors of the operating company, it also provides a way to get funds out of the operating company to the owners (as rent) without paying self-employment tax or payroll tax on such amounts.

Where someone owns multiple parcels of real estate, it is often advisable to hold different parcels in different LLCs.  Some clients prefer to put every large parcel in its own LLC.  Other clients tend to put similar type properties in the same LLC.  For example, if you own industrial, commercial and residential rental properties, you might set-up three LLCs, with the industrial properties in one LLC, the commercial properties in another and the residential properties in a third LLC.  Or if you own multiple residential properties in different cities or states, you might set-up different LLCs to own the properties in each location.  The reasons for doing this would be to separate the properties by type of risk for asset protection reasons, create privacy as to who actually owns the properties, avoid conveyance fees in the future when the properties are sold and facilitate future gifting or sale of the properties. 

Hope this was helpful. If you like what you read, forward this to a friend.  Tell them to check it out by clicking on the SenneySays logo.  If something you read here raises a question, please call or email at Jsenney@pselaw.com or 937-223-1130. 

 AND ONE MORE THING:  Many small businesses share confidential and proprietary information with their employees, contractors, customers and suppliers.  This confidential information can include client names, addresses and other client contact information, business methods, business practices and know-how.  This confidential information can and often is the life blood of the business.  Yet business owners often fail to adequately safeguard this important information.  While state law provides some protection for “trade secrets”, such protection is limited and difficult to enforce.  Confidential information can and should be protected by a properly drafted and executed non-competition and non-disclosure agreement.  Call or email me if you would like to talk about protecting your confidential information at Jsenney@pselaw.com or 937-223-1130.

Can a Late “S” Election be Fixed?

Yes.  The IRS has provided simplified procedures to correct a failure to make a timely “S” corporation election.   

If the corporation seeking the election has not filed a tax return for the first tax year of the intended election, the corporation may request relief for the late election by filing the properly completed election form within 18 months of the original election due date. A statement establishing reasonable cause for the failure to file timely must also be attached.

If the corporation seeking the election has already filed a tax return for the first tax year of the intended election, then the corporation may request relief for the late election by filing the properly completed election form and certain supporting documents within 24 months of the original election due date.  The supporting documents that must be attached include: a statement establishing reasonable cause for the failure to file the election timely, a completed Form 2553, a statement signed by all shareholders stating that they have reported their income consistent with the “S” election and a declaration signed by an officer of the corporation stating under penalties of perjury that, to the best of his or her knowledge, the facts presented in support of the election are true, correct, and complete.

Hope you found this material helpful. If you like what you read, forward this to a friend and tell them to check it out by clicking on the SenneySays logo.  If something you read here raises a question, or you need help fixing a late "S" election, please call or email at Jsenney@pselaw.com or 937-223-1130. 

AND ONE MORE THING.  The Small Business Administration recently unveiled a new program to benefit women-owned small business (“WOSB”).  Under the program, government contracts worth $2.5 billion dollars will be set-aside and awarded to WOSBs.   WOSBs must be majority owned, controlled and managed by one or more women.  More information is available at www.sba.gov/wosb.  Call or email me if you want to know more about this program or need help becoming certified as a WOSB. Jsenney@pselaw.com or 937-223-1130. 

AND ON A PERSONAL NOTE.  My son Garrett Thomas Senney graduated Sunday from The Ohio State University Fisher College of Business summa cum laude with a degree in Economics.  Garrett has been awarded a fellowship by The Ohio State University to continue his studies in Economics and earn a Phd degree.  We are very proud of him.



How is the Tax Treatment of an LLC Determined?

A few years ago, the IRS released a set of rules commonly referred to as the "Check-the Box Regulations."  Under these regulations, Members of an LLC can elect to have the LLC treated as a partnership, a corporation or disregarded entity for federal income tax purposes.  Ohio and most states will follow the federal classification for state income tax purposes. 

In the absence of an affirmative election, the tax treatment of an LLC is determined by applying the default classification rules contained in the regulations.  If an LLC has only one Member, and the LLC does not make an election to be taxed as a corporation, then the LLC is treated as a disregard entity (more about what that means in a future blog).  If the LLC has more than one Member, and the LLC does not make an election to be taxed as a corporation, then the LLC is treated as a partnership.   

If the Member(s) of an LLC want the LLC to be taxed as a corporation, the Member(s) file an election on IRS Form 8832.  If the Member(s) want the LLC to be taxed as an “S” corporation the Member(s) file an election on IRS Form 2553.  These elections generally need to be  made during the 12 month period before the first day of the tax year, or within 75 days thereafter.  More on how to fix an untimely election in a future blog.

Hope you found this helpful. If you like what you read, forward this to a friend and tell them to check it out by clicking on the SenneySays logo.  If something you read here raises a question, please call or email at Jsenney@pselaw.com or 937-223-1130.  Or if you really need to reach me, call my cell 937-371-4393.  I am playing golf in an event at NCR Country Club thru Saturday, but can talk before, after and between matches.

AND ONE MORE THING:  In these difficult economic time, cash flow is often very tight.  Business owners often have to make tough decisions about which bills to pay today, and which bills to pay later or not at all.  It is often very tempting for business owners to pay suppliers and employees, but put off paying taxes until later.  This can be a huge mistake.  Under federal and state tax law, taxes such as sales tax, payroll tax and income tax withholding can be collected from any "responsible party."  A responsible party is generally a business owner or officer who has the authority to make decisions concerning which creditor gets paid.  If you are a responsible party and taxes don't get paid, the IRS or state tax department can go after your house, bank account or other personal assets.  Let me know if you want to talk about this further.  Jsenney@pselaw.com or 937-223-1130. 

Can an LLC be an “S” Corporation?

Yes.  An LLC can make an election to be taxed as an “S” corporation.  The “S” election is made using IRS Form 2553.  All owners of the LLC must consent to the “S” election.  So long as the “S” election is in effect, the LLC will be treated as a corporation for all federal income tax purposes.  This can be important because some federal income tax provisions only apply to corporations.  For example, only corporations can participate in a tax-free corporate reorganization.  In the event the LLC’s status as an “S” corporation is terminated in the future for any reason, the LLC might find itself treated as a partnership or disregarded entity rather than a corporation for federal income tax purposes.   

Hope you found this material helpful.  If you like what you read, forward this to a friend and tell them to check it out by clicking on the SenneySays logo.  If something you read here raises a question, please call or email at Jsenney@pselaw.com or 937-223-1130. 

 

AND ONE MORE THING:   Over the last year or so, banks mortgage companies have been aggressive in collecting mortgage loans and foreclosing on residential properties.  When a property is foreclosed on, or a deed is given in lieu of foreclosure, the bank will foregive the unpaid balance of the loan.  The amount foregiven is reported to the IRS on IRS Form 1099-C and is generally treated as taxable income.  However, for debt foregiveness that occurs prior to January 1, 2013, foregiveness of qualified principal residence debt is not taxable.  Call me if you want to know more about this qualified principal residence debt exclusion or any other tax matter.  Jsenney@pselaw.com or 937-223-1130. 

How Do I Set-up an “S” Corporation?

In its simplest form, you start with an eligible small business corporation and then file an “S” election with the IRS.  The “S” election is made using IRS Form 2553.  All shareholders of the corporation must consent to the “S” election.  The election is effective on the first day of the first tax year after the election is filed, or on the first day of the current tax year if filed by the 15^th day of the third month of such tax year. 

Only an eligible small business corporation may make an “S” election.  A corporation is an eligible small business corporation only if it: (a) is a domestic corporation; (b) has less than 100 shareholders; (c) all of the shareholders are individuals, estates, certain trusts or certain tax-exempt organizations; (d) none of the shareholders are nonresident aliens; and (e) there is no more than one class of stock. 

It is possible for an LLC to make an “S” election.  More on that in a future blog.  It is also possible to correct a late filing.  More on that in the future as well.

Hope you found this material helpful.  If you like what you read, forward this to a friend and tell them to check it out by clicking on the SenneySays logo.  If something you read here raises a question, please call or email at Jsenney@pselaw.com or 937-223-1130. 

AND ONE MORE THING:   Do you know anyone having trouble paying their federal or state taxes?  The IRS offers an Offer-in-Compromise program.  Ohio and other states offer similar programs.    Federal income taxes are subject to a 10 year collection statute.  Ohio and other states have no such collection limitation, and may collect unpaid taxes 20 or 30 years after the date of assessment.  An offer-in-compromise may be used to reduce or eliminate liability for unpaid taxes.  Call or email me if you want to know more about federal or state taxes or how to use the federal or state offer-in-compromise programs.  Jsenney@pselaw.com or 937-223-1130.

How Do I Set-up an LLC?

A limited liability company ("LLC") is formed when Articles of Organization signed by an "Authorized Representative" are filed with the appropriate government agency.  In Ohio that agency is the Secretary of State of Ohio.  The Authorized Representative may be the Manager of the LLC or one of the members of the LLC or any other person authorized by the members of the LLC to act in that capacity.  The Articles of Organization are part of the public record.  For this reason, the Articles of Organization generally contain no more information than is required by state law.  In most cases, the only information contained in the Articles of Organization are the name of the LLC and the name and address of the person or entity appointed as statutory agent for the LLC.  

Once the Articles of Organization are filed, the LLC is operated and governed in accordance with state law and the LLC Operating Agreement.  State law provides a framework that governs the operation of an LLC absent contrary provisions in the Operating Agreement.  A typical Operating Agreement will contain provisions concerning: (a) members and their ownership percentages; (b) management and voting; (c) allocation of profit and loss; (d) distribution of cash and assets; (e) restrictions on transfer of LLC interests; (f) dissolution and liquidation; and (g) amendment of the Articles and Operating Agreement. 

An LLC is a very flexible business organization format.  An LLC may be managed by the Members or may be managed by a Manager.  An LLC may have voting units and non-voting units.   An LLC may have common units and preferred units.  An LLC unit might be treated as a regulated security by the SEC or state regulatory agencies, or not.  An LLC may be taxed as a partnership or a corporation, or treated as a disregarded entity.  You should talk to your business or tax advisor if you are considering setting up an LLC and discuss what makes the most sense in your particular situation. 

Hope you found this material helpful.   If something you read here raises a question, please call or email me at Jsenney@pselaw.com or 937-223-1130.  If you like what you read, forward this email to a friend and tell them to check it out by clicking on the following link:  SenneySays
  

AND ONE MORE THING:  While the burdensome Form 1099 reporting requirements contained in the Health Care Reform Act have been repealed, the majority of its provisions remain in effect.  Certain Health Plan Coverage Mandates are effective for plan years beginning on or after September 23, 2010 including coverage for children with pre-existing conditions, limitations on annual and lifetime coverage, and required coverage for certain preventive services.   These mandates are certain to drive up health insurance premiums. You may be able to avoid these mandates and other requirements of the Act by maintaining your health insurance plan as a grandfathered plan.   If your plan is subject to the Act, the Small Employer Health Insurance Credit can be used to reduce the annual out-of-pocket costs for employer-provided health insurance.  My associate Matt Stokely has studied the Act in depth.  Please give us a call if you want to discuss the Act or its effect on your health plan at Jsenney@pselaw.com or 937-223-1130.

How Do I Set-up a Corporation?

A corporation is formed by one or more incorporators signing and filing Articles of Incorporation with the appropriate government agency.  In Ohio that agency is the Secretary of State of Ohio.  The incorporators then solicit and accept subscription agreements from the persons who will be the shareholders of the corporation.  The shareholders sign resolutions approving the corporation’s Code of Regulations and appointing the Directors.  The Directors sign resolutions appointing officers and approving and leases, contracts or other important agreements or arrangements.   The Officers then execute stock certificates evidencing the shares of stock owned by each shareholder. 

At least annually, the shareholders should hold an annual meeting or execute resolutions appointing Directors and approving any extraordinary transactions or events.  At least annually, the Directors should hold an annual meeting or execute resolutions appointing officers,   approving officer salaries, bonuses and other compensation, and approving important agreements, transactions and other matters. 

It is important to hold shareholder and Director meetings at least annually, and keep up with all of the required corporate formalities.  Failure to maintain an up-to-date and orderly corporate record book opens the door for a plaintiff’s attorney to argue that the corporation is a sham, and that the plaintiff should be able to pierce the corporation’s liability shield and collect damages directly from the shareholders.

Hope you found this material helpful.  If you like what you read, pass the information and the website to a friend.  If something you read here raises a question, please contact me at  Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING:  Does your business sell products outside the United States?  Does your business have any significant foreign sales or income?  You can reduce the federal income tax rate on such foreign income by setting up a domestic international sales corporation.  Give me a call and ask me how.  Jsenney@pselaw.com or 937-223-1130.