5.5: Legal Structures
Know your options
Before you start your own company, consider legal variables, like how many shareholders you will have, or what kind of taxes you will pay. Companies in the US have a variety of legal, financial, and ownership attributes. The US legal structure encourages company ownership, and knowing what kind of company is best suited to your needs is crucial to both short and long-term success.
Finding a good lawyer
What makes a lawyer “good”? No, this isn’t a lawyer joke. Any lawyer can incorporate your company, but you want someone who is both seasoned and well-versed in business law, and has a good track record when it comes to dealing with business issues. So ask around, do your research, and take the time to sort through your options.
Why do I need a lawyer, anyway?
Lawyers know what paperwork to file, when to file it, and how. They know how to negotiate and draft business agreements. They know how to protect your company so all your hard work won’t be lost. It’s worth the money to appoint a good corporate counsel. A lawyer can also help you decide what type of business to form.
Types of corporation
Corporations come in four main categories: Sole Proprietorship, Partnership, Corporation, and Limited Liability. Ownership, liability, management, tax treatment, and source of capital are all factors to consider when choosing your structure.
Sole Proprietorship
In a Sole Proprietorship company, you and you alone are the owner. This makes you responsible for providing all capital, and also makes you personally liable for any of the company’s debts. Income and losses are passed from the company to you, so you are taxed, not the company. You have full control of all management decisions and responsibilities.
Partnerships
General Partnership companies are owned by two or more partners. Like proprietorships, the owners are responsible for the entire company. Partners are personally liable for the company’s finances, credit, and debts. The company is not taxed because profits and losses are passed through and claimed by the partners, not the company. The partners share management equally, unless otherwise stated. The capital is contributed by the partners.
Limited Partnership works like General Partnership except that some members become limited partners. Unless you’re in real estate or another limited lifespan business, this model probably won’t apply to you. An example of a limited partnership is a venture capital fund, which typically has a seven to ten year lifespan.
Corporations
S Corporations have many of the advantages of partnerships. They can have many shareholders, but generally don’t expect to make a lot of money. They can’t accept institutional investments—only money from individuals, such as friends and family. Income and losses are passed through to the shareholders, so the corporate entity is not taxed. This special tax status limits the number of shareholders to seventy-five, and restricts the class of stock.
C Corporation is the model used by nearly all big companies. A C corp exists separately from its owners. While the shareholders are the primary financial contributors, they are not liable for the corporation’s debts. The corporation, rather than the shareholders, is taxed. The shareholders elect a board of directors to manage the company, and officers to oversee day-to-day decisions. A C corps’ profits are taxed twice—to the company and to the individual shareholders.
Limited Liability Companies
Limited Liability Companies (LLCs) are neither partnerships nor corporations. Members are not personally liable for the company’s finances, credits, or debt. The company is not taxed because profits and losses are passed through and claimed by the members, not the company. An operating agreement outlines management structure. Members generally contribute capital.
The LLC model is complex and relatively costly. It’s often used for consulting companies, and is increasingly used by entrepreneurial companies. Angel investors may prefer an LLC. More sophisticated and institutional investors are likely to favor a C Corp, because of its straightforward, transparent structure.
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Choose a lawyer carefully
It’s also important for you to know what to look for. You want a lawyer who:
Many colleges and universities have some sort of legal services program for students. See if your school does, and start there. They can give you some tips and likely some names of local lawyers who specialize in business or intellectual property law.
Questions for a prospective lawyer
Review the answers from each phone interview. Make an appointment with a lawyer who can deal with your legal issue in a timely matter, has an interest in your business, and makes you feel comfortable.
Patent agent vs. patent lawyer
“Academic institutions are sending work to patent agents in solo practice. The sole practitioner, on average, charges lower fees than a larger firm and provides more personalized service. For the startup Corporation or an institution on a tight budget, using the services of a patent agent in solo practice may be a plausible solution.” From “The Role of the Patent Agent in the Patent Process” by Joy Bryant. Cafezine, January 1, 1999. |