Yes, no, sometimes and maybe.

The answer as to what registration is required for a business depends on two things: (1) the legal entity you create to operate your business and (2) the nature of your business.

Small business owners often make the mistake of creating a corporation or LLC without completing basic steps.  Use this short checklist to review whether you formed or registered your business properly.

1. Pick the right legal structure for your business. Your options include the limited liability company (LLC), general or limited partnership, limited liability partnership or corporation. Your business lawyer and your accountant should be consulted.  You should consider such factors as the number of owners, the business plan, the capitalization plan, taxes and other factors.

2. File a Certificate of Business Name. Most businesses use a shorten name, called a trade name, for marketing purposes.  ACME Medical Products, Incorporated will be marketed as “ACME” or “ACME Medical Products.”  One of the cheapest and most important things you can do keep your limited liability “shield” in place is to file a Certificate of Assumed Business Name in order safely to use trade names.

3. Register for your business’ Federal Tax ID. All partnerships, multi-member LLC’s and corporations must have an Employer Identification Number, which can be obtained from the Internal Revenue Service.

4. Register with the State Revenue Agency and Obtain Permits/Licenses.  Depending on the nature of your business, you may be required to register with your state, especially if you sell a product and are required to collect sales tax.  In some parts of the country, you might even be required to obtain local permits or licenses.

Of course, this is the short list, and your business may be required to obtain other permits or licenses, or you may be required to register with other governmental agencies.  See your legal advisor for help.

Matthew A. Griffith is an attorney, business performance coach,mentor and entrepreneur.  He coaches, advises and guides business owners, entrepreneurs, inventors, property managers, investors and real estate professionals.  Matt has nearly two decades of experience helping businesses grow.

Stay out of court, because courts often make bad decisions that can have enormous impact on your business, your personal life and your finances.  If you stay out of court, you increase your chances of controlling your own fate.  If you let a judge decide, you have no control.

One of my law partners has a great expression about clients who get themselves entangled in lawsuits:

“When a client has to file a lawsuit or gets sued, he has already lost.”

What’s that mean?

It means lawsuits cost.  They cost you or your business:

• Time spent in the courtroom, in depositions, reading documents, talking to your lawyer, in mediation, reading court documents, searching for evidence, etc.
• Money for attorneys’ fees, expert witness fees, photocopies, travel, etc.
• Opportunities to make money elsewhere doing other things, to grow your business, or to take personal time to be with family and friends.
• Your health.  Lawsuits are stressful.  The only thing more stressful than getting sued is having to file a lawsuit.  Lawsuits are fun for lawyers.  I love them, from a professional vantage point.  I get to exhibit and sharpen my advocacy and strategy skills, but lawsuits are no fun for my clients.
• Goodwill or reputation.  Getting sued can hurt the image people have of your business or you.  The newspapers rarely report stories accurately.  Allegations and even rumors are often reported as facts.  People who really, truly know you and your ethos will be unaffected.  Everyone else,  including your customers, vendors and potential customers, will develop doubt in you to some degree.

A good lawyer-friend of mine just got a horrible ruling from a judge in a divorce case.  The judge was wrong and should be appealed, but at what cost to the client?  The judge robbed a father of all time with his children in a visitation ruling.  The father in the case is not a bad guy at all, but the judge, for whatever reason, decided that the man should no longer see his own children. 

Amazing isn’t it?  How can one human being exercise that much power over another human being.  This father is dying inside, because he no longer can see the children he loves so much.  It’s very sad, and that judge should be ashamed of himself.

In a divorce case, there is not much you can do in advance to avoid a divorce lawsuit.  Save your marriage, if you can.  Or, don’t marry THAT woman in the first place.  Ladies, don’t marry THAT man!  That is the only lawsuit prevention available in a divorce context.

But what about your business affairs?

Do you take these preventative measures:

• Meet with your lawyer when you are unsure of your rights?
• Meet with your CPA, lawyer and insurance agent at least once every year?
• Have your lawyer draft or review all your contracts?
• Have your lawyer develop an asset protection plan?
• Use limited liability entities properly to create a “corporate shield?”
• Train your staff on a regular basis?
• Have processes and procedures developed into an operations manual?
• Properly use insurance to transfer liability risks away from you or your business?
• Etc.

If you answered “no” to any of these questions, then it’s time to go see your lawyer.

My blog just got spammed by some company trying to get people to invest in a corporation based on some Caribbean island.  The spam came across as an advertisement for “asset protection.”  I deleted the comment and will not be posting it on this site!  The spammer was trying to comment to my post Asset Protection-  “It’s As Easy As 1 – 2 – 3!”

So, I need a Caribbean trust or corporation to protect my assets?

Hogwash!

Asset protection is the lawful use of entities, contracts, business practices and other legal structures that are recognized and permitted under existing law.  Everything you need to protect your personal and business assets can be found right in your home state.  You do not need to go off-shore to protect your assets.  In fact, going off-shore raises another type of risk to your assets and can, therefore, be self-defeating.

Asset protection is NOT trying to hide assets in a Caribbean-based trust or corporation.  Nor do you need a Delaware corporation or a Nevada corporation, unless you live or operate your business in those states.  Nor do you lawfully protect assets by trying to hide them, by committing crimes or by engaging into fraudulent transfers.

The law provides ways to protect your assets!  You’ve just got to understand what your risks are and what lawful means are available to address those risks.  It’s really not that difficult.  And there is no trickery involved.  Trickery usually leads to other problems.

Do you know what a “legal witch doctor” is?  It’s a term I coined years ago to describe people who talk about the law and who practice law without a license but with a particular financial motive impacting their advice.  If a legal witch doctor tells you that off-shore trusts are the key to asset protection, you can bet that off-shore trusts are being sold to you.

Buyer beware!  Avoid legal witch doctors.  Go see your lawyer.

Before I can define “phantom income,” I’ve first got to explain how “tax flow through entities” work.  Basically, if you own at least part of a partnership, limited liability company or S-corporation, you get a a tax bill each year based on your share of the business’ profits.  That bill comes in the form of a K-1 tax form, which shows your portion of the profits or losses.

So, if you own 40% of a company (for the entire tax year) that had $100,000 of profits in 2008, then you would get a K-1 for $40,000.  If you only owned that 40% for half the year, your K-1 should report $20,000 of imputed income to you.  You then have to report that income on your individual income tax return and pay taxes on that amount.

But wait!  What if the company never paid you a distribution (a/k/a dividend) equal to your K-1 number?  Or, what if the company only pays you $12,000, but your K-1 shows $40,000 of income?  If that happens, you have have “phantom income.”  So, even though you only received a distribution of $12,000, you have to pay income taxes on the full $40,000.

If you want to avoid paying taxes on “phantom income,” then you should consider an agreement among all the owners and the company requiring the company to distribute at least enough profits to cover the taxes on your “phantom income.  When I draft these agreements for my clients, I like to include a provision requiring no less than 40% of the company’s profits to be distributed, which should normally be enough in distributions to cover the highest marginal tax rate on any one owner.  I include an exception, in the event the company has anticipated cash flow issues, or is about to make a large expenditure and needs the cash.

If you fail to include such a provision in your agreements, then you run the risk that the majority owners might try to “freeze out” the minority owners by causing “phantom income” to be reported on the minority owner’s K-1, year after year after year.  In that case, it actually costs money for the minority owners to own a share of a profitable company.

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The single greatest advantage to operating a business as a corporation is that the owners of the business protect their personal assets from the corporation’s creditors. Incorporation creates a fictional “shield” or “veil” between the corporation’s owners and its creditors. Generally, incorporation protects its owners from personal liability and limits an owner’s risks to the loss of his or her investment in the corporation.

Unfortunately, many business owners form a corporation but fail to take the necessary steps to maintain the integrity of the corporation. Even worse, owners will blur the distinction between their personal affairs and the corporation’s business. The consequences are that the corporate veil can be “pierced”, and an owner may be subjected to personal liability by the corporation’s creditors.
Maintaining the corporate veil is not difficult, but it does require some simple tasks completed and vigilance. Here is a partial list of tasks which should be completed in order to maintain the integrity of the corporate veil:

1. Never commingle personal and corporate finances. Never pay personal expenses with corporate funds.
2. Corporate officers should always execute documents in their corporate capacity. For example, sign documents as “John Doe, As President of ABC Corporation.”
3. Hold annual meetings of shareholders to elect directors.
4. Hold annual meetings of directors to select officers.
5. Create and maintain a corporate record book, which should include minutes of all corporate meetings.
6. Prepare and adopt good Articles of Incorporation and By-Laws.
7. File biennial reports with the Secretary of State.
8. Register all assumed business names with the Secretary of State and appropriate county recorders.

This list is certainly not exhaustive, but completing these tasks will greatly help preserve the protections afforded to business owners by incorporation.

Go see your lawyer for help help in reviewing your present corporate documents.  Make any necessary changes to those documents.  Prepare notices and minutes of meetings.  Do all this and more ASAP.

Matt’s Answer-

What a great question. There are several issues here. I’ll take them in chunks.

FRIVOLOUS LAWSUIT

I’m going to assume that your case was in a small claims court, even though you didn’t say that. Crazy things happen in Small Claims Courts. The level of “lawyering” and judging is often not as high as it is in superior and circuit courts. There are exceptions, of course. But, your case shows why we have appellate courts to fix what lower courts screwed up.
Appeal!
In Marion County, Indiana, appeals from the Small Claims Courts go to the Superior or Circuit Courts. In Marion County, you get a fresh start. . . a new trial. The Small Claims Court judgment is vacated. You start over and get a chance to get the case determination right. So, my first response is: Appeal! That’s an easy solution to all your problems.

INSURANCE

Secondly, ask your insurance agent why you’re not fully insured! Should you be suing your insurance agent for malpractice? Maybe the insurance agent’s Errors & Omissions coverage is your solution.
On a side note, I’d encourage you to learn how to communicate properly with insurance agents. There are specific things you should do in order to develop the right Insurance Plan for your business, and I can share those techniques with you in another article or during a consultation.

JUDGMENT LIENS

When a judgment is entered by a court of record in an Indiana county, a lien is automatically created against any real property owned in the same county. If the judgment-defendant has real property in other counties, those properties are not impacted. However, a judgment in “County A” can be “recorded” in “County B.” At that point, the judgment is a lien on real property owned by the judgment-defendant in both counties.
Importantly, judgment liens apply not only to the subject property but to ANY real property owned by the judgment-defendant.

PERSONAL LIABILITY

If I understand your facts, there is no judgment against the LLC owner, just the LLC. In that case, there should be no collection efforts against the LLC owner. A plaintiff cannot collect a judgment issued against an LLC from the assets of the LLC’s owner. So, the owner (you) should not be concerned about a charging order. Actually, charging orders are a good thing, in a sense (read on).
Some of you might be asking: “What’s a charging order?”
A charging order only applies to LLC’s, not corporations. A charging order is an order that requires the LLC to pay to the plaintiff any monies that would be distributed from the LLC to the owner. There must be a judgment against the owner, before a charging order could be issued. Charging orders are the only remedy a plaintiff would have to collect from the ownership interests a judgment-defendant would have in an LLC. So, in other words, a plaintiff cannot acquire an owner’s ownership interests in an LLC. By contrast, a plaintiff can acquire a judgment-defendant’s stock in a corporation.
Why do the courts distinguish between corporations and LLC’s in this area of the law?
The rationale is that LLC’s are partnerships and that a plaintiff should not be permitted to become someone’s partner. So, if A and B are partners in an LLC, and C gets a judgment against B, C should not be able to enforce the judgment to become A’s partner. A has the right to chose his partners. He picked B, not C, to form a partnership. C could get a charging order against the LLC and collect any monies that would be distributed from the LLC to B. If A and B owned a corporation together, then C could acquire B’s stock and become a co-owner with B.
Back to your situation. . . the law concerning charging orders is irrelevant to your situation for the reasons I described above. What you have at risk is your equity in the LLC. You cannot do much about the equity you have in the LLC at this point, now that the judgment was entered. Any transfers of equity you were to make now could be considered “fraudulent transfers.” And that is an entirely separate topic for another article.

THE LESSON(S) HERE-

Call your attorney. You lost a lawsuit, and probably did not have a good attorney with you in court! You saved the cost of having an attorney in court, but at what greater cost? Was it worth it?
Appeal bad decisions.
Learn how to communicate with your insurance agent to develop the right Insurance Plan.
Plan. Planning is an activity that occurs in advance. I’m not sure from your short question what your Asset Protection Plan includes. Clearly, planning is important, as your situation reveals.

A buy-sell agreement (“BSA”) is a great document.  BSA’s can be used for corporations, limited liability companies and partnerships.  Often, a BSA is embedded in the Operating Agreement of an LLC or the Partnership Agreement of a general, limited or limited liability partnership.  The form of a BSA is far less important than are its contents.  So, don’t get confused by the name of the agreement.  Rather, consider the purpose and content of a BSA.  I’ll write about the substance of BSA’s in a future blog.  Here, I want you to consider WHY you should consider a BSA for your business partnership.

BSA’s serve several important purposes, such as these:

• A BSA can prevent disputes over control of a company.

HOW?  A well-written BSA establishes when and how one owner may or must buy the ownership of another owner.  If disputing owners know the outcome of their power struggle, they are less like to fight.  The end result is already decided.  Generally, people fight, when they believe they can make gains through the process.  BSA’s reduce the opportunities to gain through struggle, and thus reduce disputes/lawsuits.

• A BSA creates a market for your ownership interests.

HOW?   There is no market to sell partial ownership interests in most small companies.  There is no stock exchange for such “closely-held” companies.  A BSA can create a market by requiring one owner to  buy the other owner’s shares under certain circumstances, which we call “triggering events.” 

    “Triggering events” are bad things that can happen to any business owner.  The key triggering events are: 

• The death of an owner.
• Marital divorce.
• The disability of an owner.
• Unwillingness of an owner to continue the business.  I call this “disinterest.”
• Retirement by an owner.
• Dissolution of the company.

• A BSA can further your Asset Protection Plan.

HOW?   Under certain circumstances, a BSA can make it extremely difficult for the creditors of an company to get at the ownership interests of an owner.

• A BSA enables you to keep your company longer.

HOW?   If your partner “triggers” your buy-sell agreement, you can agree in the BSA to a payment plan.  So, in other words, if you have to pay $80,000 to buy your partner’s ownership interests, the BSA can provide for terms.  Typically, you agree to a down-payment, a modest interest rate on the balance and payments over time.  That enables the “buying” owner to keep the business going, rather than being forced to sell the company or key company assets.  Having to buy-out your partner is an extraordinary expense.  A BSA can make those payments manageable.

• Much, much more.

There are other advantages to BSA’s.  There are also disadvantages.  Whether a BSA is right for you depends on a number of factors.  Your CPA and attorney can help you determine if and how a BSA should be used.

So, how do you develop and implement an asset protection plan?

There are time-tested, court-approved and easy things to do to keep a lawsuit from ruining your finances.  Here are the three key elements:

• #1    Use a corporation or LLC.
• #2    Get some insurance.
• #3    Develop and implement Standard Operating Procedures.

That’s it.  Those are the keys.  There’s more to learn about each of these three key elements, of course, but EVERY business should have an asset protection plan and EVERY plan should include all three elements.  WITHOUT EXCEPTION.

You can’t wait to get sued and then implement your protection plan.  At the moment you have a dispute with a customer or another business, it is too late to plan.  So, you have to develop and implement your plan TODAY to prevent TOMORROW’S risks from ruining your financial FUTURE.

Asset protection planning is not fun.  It’s not exciting.  It doesn’t generate profits.  And, it costs some money to do it properly.  So, most owners ignore it or avoid it, until it’s too late.

DON’T WAIT UNTIL YOU GET SUED!  An ounce of prevention or the pound of cure?  It’s your choice.  Which will you chose?

Matt’s Answer: The corporate veil is a legal fiction by which the owners of a business cannot be held personally liable for the bad acts of the business, if the business is a limited liability entity (”LLE”).  LLE’s include limited liability companies (LLC’s), limited partnerships, corporations, and other business forms that vary from state to state.  However, there are rules limiting the protection provided by an LLE.

 In most states, the following factors describe the standard by which a corporate veil could be pierced or ignored, allowing the owners to be sued personally.  In deciding whether a plaintiff has met the burden to pierce the corporate veil, courts consider whether the plaintiff has presented evidence showing:  (1) undercapitalization,  (2) absence of corporate records,  (3) fraudulent representation by corporate shareholders or directors,  (4) use of the corporation to promote fraud, injustice, or illegal activities, (5) payment by the corporation of individual obligations,  (6) commingling of assets and affairs,  (7) failure to observe required corporate formalities, or (8) other shareholder acts or conduct ignoring, controlling, or manipulating the corporate form.

 As a lawyer, I think that list is enormous.  There are many, many “Do’s” and “Do Not’s” in this list of eight factors, far too many to discuss in this post alone (Stay tuned to the blog for details!).  Unfortunately, very few lawyers take the time to educate their clients on how to operate a corporation or LLC.  Few lawyers list or describe the eight factors that could cause a corporation or LLC to be ignored.  Most lawyers simply file Articles with the Secretary of State to form the corporation, LLC or other entity, and create By-Laws or an Operating Agreement, and maybe a few minutes of an organizational meeting.  And that’s about it.  No training.  No education.  No practical guidance or explanation.  The clients who receive these services and nothing more are often left with a false sense of protection by their new corporation or LLC, and that is a shame.

 If you are operating a business, including a real estate-related business, you need to operate that business in a limited liability entity of some sort.  You also need documents and training, as follows:

1. A complete record book with proper Articles; By-Laws or an Operating Agreement; minutes of meetings; notices or waivers of notices of those meetings; resolutions; stock certificates; buy-sell and related agreements among owners; certificates of assumed business names; and more.
2. A plan to maintain the corporate record book.
3. A registered agent that can easily receive notices and service of process for your entity.
4. A business plan.
5. An insurance plan to integrate with your business plan.
6. The use of other asset protection techniques.
7. A tax plan integrated with your business plan.
8. Education on how to operate the entity and its finances-  practical lessons like how to complete and sign contracts.
9. Adequate funding of the business.
10. A plan to pick the correct entity form and structure.
11. A strategy for maintaining the entity after it is formed.
12. The correct tax documents and an EIN.
13. An education on fraud, use of contractors and employees, risks of personal liability, isolating risks as to co-owners or spouses, risk assessment, etc.
14. Avoid off-shore trusts, Nevada corporations, land trusts disguised as living trusts, and other tricks.  Stick with time-tested, lawful entities, insurance and good business practices.
15. Avoid using an entity as a means of committing fraud or fraudulent transfers.
16. and much more. . .

It typically takes me an hour and one-half at a minimum to teach clients how to structure and operate a simple LLE business.  If all you have done is filed the one-page form on the Secretary of State’s website and paid your $90 to $150 filing fee, then you have not yet satisfied the requirements of limited liability.  I wish you good luck, because luck is all that is protecting you.

If your lawyer does not spend at least an hour talking to you about these concepts, find a better lawyer.  Client-training and education are the most important things I do for my clients. 

Do not make the mistake of buying corporate or LLC forms on-line or through an unlicensed, non-lawyer (like a real estate speaker).  Do not make the mistake of having your accountant do your legal work.  Go see a lawyer who knows Indiana law, real estate and how to assist and educate you in the creation, organization and operation of your limited liability entity.  There are great lawyers who can form an LLE in perfect form, but who can’t teach these concepts.  Your lawyer needs to be a good teacher, as well as legal writer.  The point cannot be overstated.  It’s that important.