What Rights Do Shareholders Have?

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Under most state statutes, the rights of shareholders generally depend on provisions in the corporation's Articles of Incorporation, Code of Regulations, By-laws, Close Corporation Agreement or other Shareholder Agreement. Accordingly, these documents should be checked first when a shareholder is trying to determine his or her rights. All to often, Shareholders don't bother to find out what rights they have or don't have until a Shareholder dispute erupts.  And then it can be too late to do anything about it.

Shareholders of a corporation often have the following rights:

(1) Voting rights to elect directors, adopt the corporation’s Code of Regulations or amend the Corporation’s Articles of Incorporation;

(2) Voting rights on significant or extraordinary events that affect the corporation such as sale of all assets, merger, consolidation, liquidation, or dissolution of the corporation;

(3) Rights related to the sale, exchange or transfer of stock such as preemptive rights, put rights and call rights;

(4) Rights to receive dividends declared by the board of directors;

(5) Rights to inspect the books and records of the corporation;

(6) Rights to sue the corporation for wrongful acts by the directors and officers; and

(7) Rights to share in the proceeds when the corporation liquidates its assets.

If you have any questions about shareholder rights, or would like assistance preparing Articles of Incorporation, or other corporate governance documents, give me a call.  Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING. Minority interests in a closely-held company are worth less that controlling interests in the same company because minority interests lack the ability to control company decisions. Interests in a closely-held company are also worth less than comparable interests in a publicly-traded company because there is no stock exchange or other ready market for sale of closely-held stock. It is important to consider and agree on how interests in a company are to be valued. Call if you have any questions about how to value interests in your company. Jsenney@pselaw.com or 937-223-1130.

Shareholder Fiduciary Duty

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Under the Ohio Supreme Court decision in Crosby v. Beam, majority shareholders have a fiduciary duty to minority shareholders.  When majority shareholders in a close corporation utilize their majority control to their own advantage, without providing minority shareholders an equal opportunity to benefit, such breach, absent legitimate business purpose is actionable.   

Ohio appellate courts have found that a minority shareholder in a close corporation is not an at-will employee who can be terminated at any time by the majority shareholder absent a legitimate business reason.  However, ohio appellate courts have reached a different decision where the minority shareholder signed an employment agreement that permitted termination without cause.  For example, in Cruz v. South Dayton Urological Associates Inc, the minority shareholder had signed an employment agreement that provided the minority shareholder-employee could be terminated without cause on 90 days written notice.  The court found that when the minority shareholder signed the employment agreement containing the without cause termination provision, he relieved the majority shareholders of any duty they owed him, and waived his right to argue that the majority shareholders needed a legitimate business reason to terminate him. 

So word to the wise, whether you are a majority or minority shareholder, review the provisions of your employment agreements and other legal documents with your attorney so you understand your rights and obligations.

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 need a non-disclosure agreement drafted.   Jsenney@pselaw.com or 937-223-1130.

How to Break a 50/50 Owner Deadlock

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  If you didn’t have the foresight to include tie-breaking mechanisms in your organizational documents, there are not a lot of options.   If both owners are reasonable, an accommodation acceptable to both can often be worked out.  Perhaps the owners can agree to appoint an impartial arbitrator or panel, and to be bound by the decision of the arbitrator or panel.  Or perhaps one owners agrees to buy out the other partner.  But on those occasions when a compromise or method of resolution cannot be worked out, a judicial dissolution may be necessary.  In a judicial dissolution, one of the owners petitions the court to divide the assets and business between the owners in some equitable manner.  But unless the business has multiple independent divisions that can be easily separated, such dissolution can have a disastrous effect on the business.
     It is inevitable that 50/50 owners will eventually disagree on the direction, the scope or the details of operating their business.  It is not possible to avoid every dispute.  But it is possible with carefully drafted organizational documents to make resolution of such disputes less costly and time-consuming.  There are many different types of tie-breaking mechanisms that can be adopted.  The partnership or operating agreement might provide for: (a) a third person to break ties; (b) a board with an odd number of directors to decide disputes; (c) arbitration to be handled by one or more arbitrators; (d) one of the owners to be the managing partner or member and have the final say; (e) flipping a coin to make the final decision; or (f) whatever else theowners can agree on.
 In the next blog we’ll talk about the fiduciary duty a majority owner owes to the minority owner, and the effect this has on splitting a business or terminating the minority owner.   If you would like assistance drafting tie-breaking mechanisms for a partnership, LLC or corporation, let me know.  Jsenney@pselaw.com or 937-223-1130.
     AND ONE MORE THING.  The definition of “accredited investor” was changed by the Frank-Dodd Act.  If you are trying to raise capital by selling shares to investors, you can avoid a lot of risk and make security law compliance easier, if you only sell to accredited investors.  One of the factors used to determine accredited investor status is net worth.  For this purpose, net worth excludes the value of the investor’s personal residence.  If you want to discuss raising capital by doing a private offering, please give me a call.  Jsenney@pselaw.com or 937-223-1130.

Do I Really Need a Buy-Sell Agreement?

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Latest Blog:  Buy-Sell Agreements

 

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.

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.

 

 

SenneySays is Moving!!!

SenneySays is moving.  But you can continue to follow SenneySays on  Facebook  or LinkedIn.  To check it out just click on one of the links.  If you follow it on Facebook you can LIKE it.  Thanks  Jeff

I Really Mean It!! The Blog is Moving!!

Thank you for being a follower of my SenneySays Blog. We are moving the SenneySays Blog from Blogger.com to our new Pickrel, Schaeffer and Ebeling Website. I’d love for you to follow my Blog on our website at www.pselaw.com. 

You can also find it on Facebook at or even on LinkedIn. Hope you enjoy the Blog and find it valuable for your business. As always if you have any questions, feel free to email me at jsenney@pselaw.com or call 937.223.1130. Thanks again, Jeff Senney, attorney

Blog Moving to PS&E Website

Thank you for being a follower of my SenneySays Blog.  We are moving the SenneySays Blog from Blogger.com to our new Pickrel, Schaeffer and Ebeling Website.   I’d love for you to follow my Blog on our website at www.pselaw.com.  You can also find it on Facebook at or even on LinkedIn.  Hope you enjoy the Blog and find it valuable for your business.  As always if you have any questions, feel free to email me at jsenney@pselaw.com or call 937.223.1130.  Thanks again, Jeff Senney, attorney

How to Treat Start-Up Expenditures

Start-up expenditures generally must capitalized and amortized over a 15 year period.  However, for years after 2010, you may elect to expense up to $5,000 of start-up costs in the year the business begins, and then amortize the balance over 15 years.  The first year expense limitation amount is reduced to the extent total start-up expenditures exceed $50,000. 

Start-up expenditures are amounts paid or incurred in connection with investigating the creation, acquisition or establishment of an active business.  But start-up expenditures do not include any amounts that would be deductible as interest, taxes or R&D expenses.  If a business is disposed of before the end of the 15 year amortization period, any expenditures not yet deducted may be deducted to the extent the disposition results in a loss.

A corporation that makes expenditures in an unsuccessful effort to start or acquire a business may deduct such expenditures as a loss.  Non-corporate taxpayers not engaged in the business of locating or promoting new business ventures cannot deduct  the cost of unsuccessful searches or investigations (they are considered personal expenses).  However, once the non-corporate taxpayer has focused on the acquisition of a particular business, unsuccessful start-up expenditures are deductible as business losses.

You may deduct expenditures related to expansion of your existing business if you can show that the contemplated business expansion and the existing business are closely-related.  But such expansion costs must be capitalized and amortized if they provide you with long term benefits, create separate and distinct assets or relate to a change in the nature of your business operations. 

If you have any questions about whether to deduct or amortize start-up expenditures, or whether you can write-off unsuccessful start-up expenditures as losses, please give me a call or email at (937) 223-1130 or jsenney@pselaw.com.  And please send a copy of SenneySays to your to your friends.   

AND ONE MORE THING.    Tax deductions are a matter of “legislative grace.”  You are only entitled to take a tax deduction if you meet all of the requirements for such deduction as set forth in the federal tax code and regulations.   In order to qualify for tax deductions, you are generally required to adequately substantiate the amount, timing and purpose of the deduction.   In some cases you are required to go even further and maintain a contemporaneous written log to substantiate the expenses.  In other cases, you may be permitted to estimate your expenses based on the US Tax Court’s Cohan rule.   More about substantiation of tax deductions in a future blog.  If you want to talk about it now, please call or email me at  Jsenney@pselaw.com or 937-223-1130.

 Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

IRS Accepts Gambling Addiction as Reasonable Cause

In a previous blog we discussed what constitutes “reasonable cause” for abatement of federal income tax penalties.  Reasonable cause can be any situation beyond the control of the taxpayer that prevents the taxpayer from filing, paying or depositing taxes.  Common examples of reasonable cause are death or serious physical or mental illness.   While there is no published case or IRS ruling on point, in a very recent case I was able to convince the IRS that gambling addiction was a reasonable cause.

 In deciding whether a particular problem or set of circumstance amounts to reasonable cause, the IRS agent reviewing the abatement request will typically want answers to the following questions: (1) Why did these problems keep you from complying with your filing, payment or deposit requirements?  (2) Do you have a history of filing, paying or depositing taxes late?  (3) How were other financial matters handled during this time you had the problem?  (4) Did the time period you had the problem correlate to the time of the tax filing deadline or tax due date?  (5) Was your problem anticipated?  How beyond control of the taxpayer was the problem?  (6) Do you have written documentation to support your claim that a problem existed   such as doctors notices or hospital bills?

There is no special form that needs to be completed to make a request for abatement.  A letter addressed to the IRS collection agent requesting abatement of penalties, which sets forth the facts and includes copies of supporting documentation should be sufficient.

In a recent case I handled involving failure to timely deposit income and payroll taxes, IRS agreed to waive all penalties (and interest assessed on the penalties) based on gambling addiction as reasonable cause for failure to timely deposit.  While there were no published cases or IRS rulings on point, I was able to cite a Mayo Clinic study that indicated gambling addiction was a medical condition caused by an imbalance in the brain chemicals serotonin, norepinephrine (adrenaline) and dopamine, and that such condition prevented the addict from coping with business and financial pressures.        

If you have any questions about reasonable cause for penalty abatement, or need any assistance with a federal or state income tax matter, please give me a call or email at (937) 223-1130 or jsenney@pselaw.com.  And please send a copy of SenneySays to your to your friends.   

AND ONE MORE THING.  Too often business owners forget to prepare and sign a buy-sell agreement.  And way to often they forget to pull it out and see what the buy-sell agreement says.   If the owners do not have a buy-sell agreement in place, the occurrence of a trigger event such death, disability, or termination of employment can lead to confusion at least, and litigation at worst.  If you have any questions or comments about buy-sell agreements or succession planning, please call or email me at ..  Jsenney@pselaw.com or 937-223-1130.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

Ohio BWC Safety Grant Program - Sarah Carter Guest Blogger

When a business owner thinks of the Bureau of Workers’ Compensation (“BWC”), the opportunity to receive funds is probably not high on the list, if at all, but the BWC has implemented a variety of programs for employers who take steps to make their workplaces safer and healthier for employees.

The most lucrative program is the Safety Intervention Grants Program, which provides the employer with up to $40,000 towards the purchase of ergonomic, safety, and/or industrial equipment. This is a 2-to-1 matching grant, which means the employer has to contribute at least $20,000 toward the equipment in order to earn the $40,000 grant.

To be eligible for this grant you must: (a) be a state fund employer in business for at least two years; (b) maintain active coverage; (c) be current on all funds owed to the BWC; and (d) demonstrate the need for safety intervention (note due to high demand, numerous items have been identified by the BWC as no longer being eligible for grant funds, including fork lifts, boom lifts, and vehicle lifts). There are several additional requirements, including extensive documentation regarding the purchase and ongoing reporting requirements detailing the impact the equipment has had on the workforce. There are strict rules regarding the use of the funds, and any unused funds must be returned to the BWC.

If you have any questions about the Safety Grant Program, call or email Sarah Carter at (937) 223-1130 or scarter@pselaw.com. 

AND ONE MORE THING.  The BWC also offers grants under the Drug Free Safety Program (“DFSP”) and newly created Workplace Wellness Grant Program. Sarah Carter will provide more information about the DFSP program in a future Blog.  If you have any questions or comments about any tax or business matter, please call or email me or Sarah Carter at Scarter@pselaw.com or Jsenney@pselaw.com or 937-223-1130.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

Can I Get Tax Penalties Abated?

The federal income tax code is extraordinarily complex.  It can be extremely difficult for a small business owner to comply timely with all of the rules and regulations in the best of situations.  If for any reason you fail to file, pay or deposit income or payroll tax as required, you are subject to tax, interest and penalties.  

It is unlikely the IRS will abate interest charges.  But if you meet certain requirements, it is possible to get most or all of the penalties abated.   The IRS will generally abate penalties for failure to file, pay or deposit if the failure was due to “reasonable cause.”

Reasonable cause can be any set of circumstances that prevent you from being able to file, pay or deposit taxes on time.  Some common examples that the IRS has accepted as reasonable cause for abatement of penalties are: death or serious illness of you, a family member or someone very close to you; unavoidable absence (in hospital, rehabilitation, or prison);  destruction of your office and records (fire, flood or other casualty); civil disturbances; incorrect advice from a tax professional; incorrect advice received  from the IRS; or other events beyond your control.  More about this in a future blog.

If you are being assessed tax, interest and penalties for failure to timely file, pay or deposit, you may be eligible for abatement of penalties.  Give me a call if you want to discuss reasons for penalty abatement in more detail.  Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING.    The Minority Business Enterprise (MBE) / Encouraging Diversity, Growth & Equity (EDGE) Unit has the responsibility for implementing the State of Ohio's minority business set-aside program. This includes certifying minority businesses thereby making them eligible to participate in the state's set aside program, as well as assisting state agencies with the selection of set aside contracts, maintaining a list of certified minority business enterprises, monitoring program compliance, and conducting research & reporting.  If you want more information go to the MBE/EDGE website by clicking MBE / EDGE Certification .  Or give me a calll or email at Jsenney@pselaw.com or 937-223-1130.

PS. Got a topic you want to see discussed in SenneySays?  questions I can help with?  Any business isssue you want to Give me a call or email.  I'll send you a SenneySays headband.  Thanks for reading.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

Stock Options - Succession Planning

Successful succession planning sometimes involves the use of stock options.  Stock options are used to give employees incentive to put render exceptional service and put forth their best effort to grow and increase the value of the corporation.  If the employee works hard and the corporation increases in value the employee’s stock increases in value. 

Stock options can also be used to create a market for the stock of the founding shareholder.  When stock options are awarded to and exercised by key employees, a market is created for eventual sale of the founding shareholder’s stock. 

Stock options can be qualified or non-qualified.  Qualified options have to granted with an option price equal to fair market value.  Non-qualified options may have an option price less than fair market value.  Qualified and non-qualified options are treated differently for federal income tax purposes.  More about taxation of stock options will be in a future blog.

Options generally are awarded for a 5 year term.  The employee can exercise the option any time during the term.  Upon exercise of the option, the employee pays the option price to the corporation.  Some corporations set a below market option price for non-qualified stock options to make it easy for employees to exercise the option.  Other corporations require employees to pay a fair market value option price so they really have “skin in the game.”  Other corporations pay a bonus to the employee at the time of option exercise so as to partially fund the employee’s payment of the option price.  The right answer here depends on the situation. 

When you issue stock options to your key employees, it is important that the award agreement contain non-competition provisions, transfer restrictions and buy/sell provisions.  If you and a key employee who exercised a stock option have a dispute in the future, you want to make sure you have a way to get the stock back when his employment e is terminated.

Will talk more about taxation of stock options in future blogs.  Please give me a call if you want to discuss any questions about qualified or non-qualified stock options.  Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING.  The stock market seems to have turned itself around.  Now might be a good time to consider making gifts of appreciated stock or other assets to the next generation.  Many assets are still being traded or valued at relatively low prices. If these assets are expected to increase in value over time, now might be the right time to gift such assets.  You can take a business valuation discount on a transfer of closely-held stock.  Give me a call or email at Jsenney@pselaw.com or 937-223-1130 if you want to talk about gifting stock to family as part of your succession planning.  Jsenney@pselaw.com or 937-223-1130.

 Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

Deferred Compensation - Code Section 409A

Successful succession planning often involves the use of deferred compensation arrangements with key employees.  Such arrangements are designed to generate employee loyalty, and keep the key employee on board after the owners have moved on. 

Deferred compensation arrangements come in many shapes and sizes.  Many deferred compensation arrangements are structured so that the amount of deferred compensation is determined by increases in the value of the company, sales volume, net profits, reduction in expenses or other measurable factors within the influence of the employee.

When setting up drafting a deferred compensation arrangement it is important to make sure the arrangement complies with Internal Revenue Code section 409A.  Code section 409A was enacted to prevent executives from controlling the timing of cash distributions under deferred compensation arrangements.  Under Code section 409A, the timing of payments under a deferred compensation arrangement must be specified in the agreement, and with limited exceptions may not be further deferred or accelerated.  Care should be taken when amending an existing deferred compensation arrangement to avoid making a change that accidentally violates Code section 409A. 

If a deferred compensation arrangement does not meet the requirements of Code section 409A, the compensation is subject to certain additional taxes, including a 20% ADDITIONAL income tax. Section 409A has no effect on FICA (Social Security and Medicare) tax.

Will talk more about deferred compensation arrangements and succession planning in future blogs.  Please give me a call if you want to discuss any questions about deferred compensation arrangements.  Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING.  Shahrzad Allen is now working with PS&E.  Shahrzad does immigration work.  If you or one of your clients needs assistance with a VISA or other immigration matter, please give me or Shahrzad Allen a call.  Jsenney@pselaw.com or Sallen@pselaw.com or 937-223-1130.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

Succession Planning

It is never too early to start thinking about succession planning.  All business owners eventually reach a point where they want to retire, they want to slow down, they want to try their hand at something new, they want to give the younger generation a chance to show their stuff or they just want to cash out.  In every case, it is a smoother and generally more profitable transition if the owners have taken the time to plan and think through what is required to successfully transition their business.  

Succession planning may involve sale of the business.  But to whom?  To employees?  To family?  To suppliers?  To customers?  To competitors?  And for how much?  Is there a reasonable methodology for setting the value of the business?

Succession planning may involve gifts to spouse, children and grandchildren.  But are they competent to run the business?  Is the management staff competent and loyal enough to work with inexperienced family members while they come up to speed?

Succession planning may involve stock options or deferred compensation or other arrangements with key employees designed to keep them on board after the owners have moved on.  Do you have a group of employees who have the experience and skill to run the business after you are gone?  Have you given them the ownership and/or compensation incentives needed to win their loyalty and keep them on board.

Succession planning may involve employee stock ownership plans and other retirement plan vehicles.  By using these qualified retirement plan vehicles, business owners may be able to create a market for their stock where no market otherwise exists, and may be able to sell their stock in a tax-advantaged away.  But are the possible tax savings worth the cost and administrative complexities inherent in such arrangements?

Will get into more succession planning issues in future blogs.  Please give me a call if you want to discuss succession planning and how we can help you.  Jsenney@pselaw.com or 937-223-1130.

 

AND ONE MORE THING.  I am please to announce that immigration attorney Shahrzad Allen is now working with us.  If you or one of your clients needs assistance with a VISA or other immigration matter, please give me or Shahrzad a call.  Jsenney@pselaw.com or Sallen@pselaw.com or 937-223-1130.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

Material Participation under Passive Activity Rules

Passive losses may be deducted against passive income, but generally may not be deducted against other income, such as wages, portfolio income, or business income.  Active losses may be deducted against income from any source.  A passive activity is any activity in which the owner does not materially participate.  So materially participating in an activity can be very important for tax purposes.

An owner materially participates in an activity if the owner participate sin the activity's operations on a regular, continuous and substantial basis.  Substantial participation includes an owner working more than 500 per year in the activity, or if the owner is the sole worker in the activity, or if the owner works more than 100 hours a year and that is more than any other worker (including non-owners), or the owner materially participates for at least 5 of the last 10 years.  Substantial participation may be met in some other way, and the owner may otherwise meets a facts and circumstances test.  

Give me a call if you want to know more about the passive activity rules.  Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING.  Don’t forget to have your owners and employees and independent contractors sign non-compete, non-solicitation and non-disclosure agreements.  Give me a call if you want us to help you draft an agreement.  Jsenney@pselaw.com or 937-223-1130.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

Deduction of Suspended Passive Losses

Passive losses may be deducted against passive income, but generally may not be deducted against other income, such as wages, portfolio income, or active business income.  Any unused passive activity losses are suspended and carried forward to be used against passive income in future years.

When a taxpayer disposes of his or her entire interest in a passive activity to an unrelated party in a taxable transaction, suspended passive losses are treated as non-passive and may be deducted against passive and non-passive income.  Unused suspended credits however may not be used against non-passive income when a passive activity is sold.  Unused suspended credits continue in suspense to be used to offset passive income from other passive activities in the future.

If a passive activity is sold in an installment sale, suspended losses from the activity are allowed to be deducted against non-passive income, but only in the ratio that the gain recognized each year bears to the total gain on the sale.

Give me a call if you want to know more about the passive activity rules, or how to utilize suspended passive losses.  Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING.  Don’t forget to add non-compete provisions to the employment agreements, bonus arrangements and deferred compensation agreements you sign with your employees. It’s bad enough to have a former employee compete with you.  It’s worse if you are stuck paying him or her bonus, severance or deferred compensation.  Give me a call if you want us to help you draft an enforceable non-compete agreement.  Jsenney@pselaw.com or 937-223-1130.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation, Immigration Law

Special $25,000 Allowance for Passive Real Estate Activities

Internal Revenue Code section 469 limits the deductions and credits a taxpayer may claim from an activities in which he or she does not "materially participate". Losses from passive activities generally may not be deducted against non-passive income, such as wages, portfolio income, or business income. Any unused passive activity losses are generally suspended and carried forward to be used against passive income in future years.

An activity is considered a passive activity if it involves the conduct of any business and the taxpayer does not materially participate in the business activity. An individual materially participates in an activity only if he or she is involved in the activity’s operations on a regular, continuous, and substantial basis.

Except for individuals in the real estate business, passive activities include any rental activity, whether or not the taxpayer materially participates Losses from rental real estate activities are allowed against income from other passive activities, but are not generally allowed against other income (ie., active or portfolio).

Nevertheless, the federal tax code permits an individual to deduct annually up to $25,000 of passive activity losses (to the extent such losses exceed passive activity income) that flow from rental real estate activities in which he or she “actively” participates. The special $25,000 deduction exception is available only to individuals (including individuals that conduct the rental activity through an entity taxed as a partnership or “S” corporation) and is not available to “C” corporations or trusts, and only in certain circumstances to estates.

An individual is not “actively” participating in a rental real estate activity if he or she has an interest that is less than a 10 percent interest in the activity at any time during the year. But having a 10-percent (or greater) interest does not create a presumption of active participation.  The active participation requirement does not requires as much participation as the  “material participation" standard that applies to non-passive activities.  More about the level of participation required in a future blog.

The $25,000 allowance for passive losses from real estate rental activities is phased out ratably as a taxpayer’s adjusted gross income (determined without regard to passive activity losses) increases from $100,000 to $150,000.

Please call or email if you want to know more about the $25,000 alllowance for passive rental real estate activities.  Jsenney@pselaw.com or 937-223-1130. 

AND ONE MORE THING.  How long has it been since you had a Legal Audit?  The Business attorneys at PS&E would like to meet with you and do a FREE legal audit of your business.  As part of the legal audit, we will work through a checklist with you and identify areas where you may be at risk.  If you would like to schedule a free Legal Audit with one of the PS&E attorneys, please send me an email or give me a call.  Jsenney@pselaw.com or 937-223-1130.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

What is Passive Income and Loss?

 Passive income or loss are earnings or losses of an individual derived from a rental property, limited partnership or other activity in which the individual is not actively involved. Passive income and loss are treated differently than non-passive income or loss for tax purposes.   

There are three main types of income: active income, passive income and portfolio income. Passive income does not include active income such as earnings from wages or active business participation.  Passive income also does not include portfolio income such as income from dividends, interest or capital gains. 

Passive and non-passive income are generally taxable.  Passive losses can be deducted from passive income for tax purposes.  But passive losses generally cannot be used to offset active income or portfolio income.

It is important to know what type of income and loss is being generated by your business and investment activities.  It does you little good to hold investments that are producing passive losses if you have no passive income to offset the losses against.  You should review your business and investment portfolio with your tax or investment advisor from time to time to make sure you have the right mix.  Call or email me if you have any questions about passive income or loss. Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING.  When "C" corporations sell assets, the corporation pays tax on the gain, and then the shareholders pay tax on the money distributed to them.  This double tax effect can be eliminated if the selling corporation is an “S” corporation rather than a “C” corporation.  So owners of a “C” corporation who are considering selling their business in the future should consider converting to an “S” corporation.  If you want to know more “S” corporations or built-in gain, please give me a call.  Jsenney@pselaw.com or 937-223-1130.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

Converting a “C” Corp to an “S” Corp.

S corporations can provide significant tax advantages over C corporations in the right circumstances.  But there are a number of potential tax problems that you should assess before making a decision to convert. Below is a summary of the most significant of these for you to consider.

Built-in gains tax. S corporations generally are not subject to tax. But those that were formerly C corporations may be subject to tax on unrealized "built-in" gains that the C corporation has at the time the S election becomes effective.  These built-in gains are subject to tax if those gains are recognized within 10 years (7 years for tax years beginning in 2009 or 2010; 5 years for tax years beginning in 2011) after the corporation becomes an S corporation. Recognition of built-in-gain generally is unfavorable, but there can be situations where making an S election can produces a better overall tax result despite the built-in gains tax.

LIFO inventories. C corporations that use LIFO inventories have to pay tax on the benefits they derived by using LIFO if they convert to S corporation status. The tax can be spread over four years. This cost must be weighed against the potential tax savings from converting to S corporation status.

Passive income. S corporations that were formerly C corporations are subject to a special tax if passive investment income (dividends, interest, rents, royalties, and stock sale gains) exceeds 25% of gross receipts, and the S corporation has accumulated earnings and profits carried over from its C corporation years. If this tax is owed for three consecutive years, the corporation's election to be an S corporation terminates. This tax can be avoided by distributing the accumulated earnings and profits as taxable dividends to the shareholders or by avoiding recognition of passive income.

Unused losses. If a C corporation has unused net operating losses, the losses cannot be used to offset its income as an S corporation, and cannot be passed through to shareholders. If the losses cannot be carried back to an earlier year, it is necessary to weigh the cost of giving up the losses against the tax savings expected to be generated by the conversion to S status.

There are other factors to consider in switching from C corporation to S corporation status.  For example, shareholder/employees of S corporations can't get the full range of tax-free fringe benefits that are available with a C corporation.  All of these factors have to be considered to understand the full effect of converting from C to S status.

Please give me a call or email if I can help you evaluate whether you should convert your C corporation to an S corporation.  Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING.  Many businesses have been improperly classifying employees as independent contractors. The reason? Classifying workers as contractors rather than employees can save an employer 20-30% of its labor costs.  The IRS has voluntary worker classification program that will allow businesses to reclassify their workers as employees, and pay only a small amount to cover past payroll taxes.  However, the IRS also announced plans to aggressively audit and look for worker misclassification in the future.  Give me a call if you have any questions about whether your workers can or should be treated as employees or independent contractors.  Jsenney@pselaw.com or 937-223-1130.

 Serving Dayton, Serving You

 Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

 Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation

If I Export Products, Should I Set-up a DISC?

Yep.  If your company generates significant income from exporting products made in the US, or from engineering or architectural services related to foreign construction projects, you should set-up a domestic international sales corporation (DISC).  A DISC is relatively easy and inexpensive to set up and operate.  And setting up a DISC can reduce the federal income tax rate on your net export income by up to 20%.

To set-up a DISC, you need to incorporate in one of the 50 states or the District of Columbia, file an election with the IRS for the corporation to be treated as a DISC, maintain a minimum capitalization of $2,500, have only a single class of stock, and meet an annual qualified export receipts test and a qualified export assets test.  The DISC must have its own bank account, maintain separate accounting records, and file US tax returns. But there is no need for the DISC to have its own office, employees, or tangible assets. 

Under federal tax law, the DISC pays no federal income taxes.  And setting up the DISC reduces your overall federal tax liability significantly.   The DISC tax benefits flow from the commission payment made by your export company to the DISC. The commission payment is equal to the greater of 4% of your export receipts or 50% of your export income. The commission payment is fully deductible by your company and is not taxable to the DISC.  The commission payment is only taxable (at the 15% qualified dividend rate) when the monies are distributed to the DISC shareholders. 

For the most part, qualified export receipts are proceeds from the sale of tangible products.  To qualify, such tangible products must be: (1) manufactured, produced, grown, or extracted in the US; (2) held primarily for sale, lease, or rental for use, consumption, or disposition outside the US; and (3) have a maximum of 50% foreign content.  Export property does not need to be newly produced property.  Used equipment and scrap also qualify.  There is also an exception whereby payments for engineering and architectural services related to construction projects outside the US are considered qualified export receipts.

Give me a call or email if I can help you set-up an DISC.  Jsenney@pselaw.com or 937-223-1130.

AND ONE MORE THING.  Many businesses have been improperly classifying employees as independent contractors. The reason? Classifying workers as contractors rather than employees can save an employer 20-30% of its labor costs.  The IRS has voluntary worker classification program that will allow businesses to reclassify their workers as employees, and pay only a small amount to cover past payroll taxes.  However, the IRS also announced plans to aggressively audit and look for worker misclassification in the future.  Give me a call if you have any questions about whether your workers can or should be treated as employees or independent contractors.  Jsenney@pselaw.com or 937-223-1130.

Serving Dayton, Serving You

Pickrel, Schaeffer & Ebeling Co., LPA, 2700 Kettering Tower, Dayton OH 45423

www.pselaw.com

 Tax, Business, ERISA, Employee Benefits, Real Estate, Construction Law, Private Placement Security Law, Employment Law, Workers Compensation, Probate, Estate Planning, Succession Planning, Bankruptcy, Creditors Rights, Immigration Law, Litigation, Arbitration, Mediation