Our firm regularly encourages and supports businesses in the process of getting on their feet. Starting a business can be a treacherous endeavor, and there is a certain temptation to keep things simple by remaining unincorporated/unorganized. If you are doing business in our state, there are quite a few reasons why doing so is an unnecessary risk:
Reason #1 – Protection of your personal assets.
Shareholders in a corporation and members of an LLC have “limited liability.” What this means is that almost any misdeed, misstep, wrongdoing, or other issue imposing liability on the organization can only affect the owner to the extent that they have invested in the business. This is most useful with respect to debts incurred by the business—if the organization cannot services its debts, the owner/shareholder will not be on the hook for those liabilities (with limited exception for fraud and some tax liabilities). Typically, this is the main feature and benefit of incorporating/organizing your business.
Reason #2 – Tax Flexibility & Benefits
At first blush, the added tax burden of “double taxation” makes incorporation a disadvantageous tax approach. With the advent of the Limited Liability Company and the S-corporation election, however, owners can make tax decisions that allow them to be taxed once as a “pass-through” instead of twice. From a bookkeeping standpoint, it is easier to maintain clean books with the existence of the separate LLC/Corporate entity, which will have its own accounts and liabilities. Importantly, studies have shown that incorporated/organized entities are audited at a much lower rate than sole proprietorships. Studies going back to 2006 show that the audit rate for sole proprietorships is almost four times higher than that of a normal tax filer.
Reason #3 – Durability
Since sole proprietorships are considered to be and extension of the individual, the sole proprietorship cannot continue to exist once the owner has died or otherwise been unable to operate the business. For the longevity of the business, having an organizational entity makes it possible to continue the existence of the business indefinitely. With respect to partnerships, sometimes the death or disability of one partner can put a stranglehold on business operation, which could be avoided by use of an LLC or Corporation.
Reason #4 – Liquidity/Transferability
It is very difficult to transfer an interest in a sole proprietorship or partnership. Think about all of the time you work in building your business so that it can be viable and valuable to clients. At some point, it makes sense to be able to freely transfer your ownership to someone else who is interested in continuing to provide that value to your customers. For some folks, the value and goodwill in their business is their retirement plan. Without an organizational body, it is quite difficult to transfer interests to other individuals, whether you are selling out, adding a member, or otherwise transferring interest in the business.
Reason #5 – Brand Protection
Once your name is filed with the North Carolina Secretary of State, it is your name, and it is your brand. They will not issue the same name to another business in the state. Companies interested in using your name, moreover, are going to be reluctant to do so when you have already locked it in with the Secretary of State.
Reason #6 – Credibility
How many successful companies do you see that are unincorporated or unorganized? Organization/incorporation adds creditability to your business. It shows a professional attitude and understanding of the need to conduct business independently from personal endeavors. Importantly, it can be a requirement if your business is looking for funding, as many banks and lenders are going to require the existence of a corporate entity to protect themselves in the event of default or subsequent problem. Just the mere addition of Inc. or LLC at the end of a name adds a certain credibility for a business as they look to attract investors and customers.
Do I Need an Attorney to Organize or Incorporate my Business?
The short answer to this question is no, but it really is not the full answer. You can visit the Secretary of State’s website and pull down the requisite forms, fill them out, and send them in. Doing so will get you the bare minimum, but really does not help you with respect to Reason #1 above.
The first and foremost reason to form a corporation or LLC is to limit your liability. Limited liability is often referred to as the corporate veil. The corporate veil is the shield that protects the owner, personally, from the liabilities of the business. If something happens in the business, a weak corporate veil might mean that a creditor/plaintiff can “pierce” the veil, and successful assert liability against you personally. In other words, if you don’t have the necessary formalities in place, you might be defeating the purpose of incorporating in the first place.
An attorney can help you add necessary formalities, with things such as (1) an operating agreement or bylaws, (2) organizational minutes, (3) corporate books, and (4) other foundational documents that help show that the business is a standalone legal entity. “Going it alone” is not a good option if you want to make sure you have a strong corporate veil. A weak corporate veil gets pierced.
Coltrane Grubbs & Orenstein, PLLC, has extensive experience in helping fledgling business get off the ground and helping existing businesses operate at maximum efficiency and effectiveness. Our practice is tilted towards supporting small businesses that want to build a strong foundation in our community and need an attorney who can help them resolve personal and professional issues every step of the way.