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RGMacEsq
RGMacEsq, Attorney
Category: Business Law
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Experience:  Licensed Texas General Practice Attorney
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I need to form a corporate entity in California and cant decide

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I need to form a corporate entity in California and can't decide between LLC, S-Corp, or Corporation. My one entity will embody 3 separate "brands" doing different types of businesses. One is a music company, another is a marketing agency, and the other is a supplement brand/company...

1.) Initially I will be the only shareholder and plan to always be the majority shareholder.

2.) For the supplement brand that falls under the entity I'd like to be able to offer stock options (or profit sharing of a percentage) for ownership just in that one piece of the business - can this be done under the same entity to avoid separate entities? Would I be issuing stock or a profit sharing agreement related to sales from just one product sold under the business?

3.) In a related question to #2 I also may wish to offer overall profit sharing in the other two businesses under the same entity. Would this be easier to achieve with stocks or profit sharing agreements?

4.) If this business is expected to be making millions of dollars which would be the best entity to avoid paying high taxes?

5.) I will be getting loans from angel investors and possibly banks but I have no intention of going public with the company.
Submitted: 1 year ago.
Category: Business Law
Expert:  RGMacEsq replied 1 year ago.

RGMacEsq :

Thank you for using JustAnswer. I am researching your issue and will respond shortly.

RGMacEsq :

Because you're not going public with this company, you probably would not want to chose a C-corp (corporation). That would be the best structure to choose if you were going to go public, or issue stock that could easily be bought and sold, etc... The downside is that there's double taxation there (taxation on the profits at the corporate level and then at the shareholder level). An S-Corp can be taxed as a partnership, meaning that it's pass through taxation, taxed just like regular income. The problem with S corps is that they're a lot more stringent on who can be shareholders. Only real people (not institutions or trusts, and only people who are US citizens or permanent residents) can be shareholders in an S corp. This is a good idea for a family business, but often not for a mutlimilion dollar one.

RGMacEsq :

An LLC probably would be the best option for you. Now an LLC does not really have any stock. Rather, you would sell / grant / etc... an interest in the LLC to a new member.

RGMacEsq :

(member is like a shareholder)

RGMacEsq :

You can designate in the LLC member agreement what the percentages are, etc...

RGMacEsq :

Now as to profit being segregated in the manner that you're talking about, that's a bit more difficult. It's possible that you could do this in a member agreement, but that opens your business up to lawsuits that you're finessing the books to make more profit go to another place, etc... so it would require very strict bookkeeping and very substantial audits.

RGMacEsq :

The better option would be to have three different companies, or at least two (one where you have that profit sharing situation for just the supplements, and the other where you have the other two businesses). You can still segregate the businesses, but in the end, there's one profit in a company, so if you want to keep the profits separate, you need to have separate businesses.

RGMacEsq :

As for profit sharing (I assume non-member employees) that can certainly be done, but it needs to be agreed to by the members. The good thing is that if you're the sole member at the beginning, you could do this, and any subsequent member would pretty much have to agree.

RGMacEsq :

Hope that clears things up a bit. If you have any other questions, please let me know. If not, and you have not yet, please rate my answer AND press the "submit" button, if applicable. Please note that I don't get any credit for my answer unless and until you rate it a 3, 4, 5 (good or better). Thank you, XXXXX XXXXX luck to you!

Customer:

For the revenue sharing wouldn't it be fairly easy to just have one entity but have contracts with individuals to receive a percentage of net profit from sales of any given product - possibly have a DBA for each "wing" of the business to help avoid accounting errors? I have a record label currently that is a sole proprietorship and labels have deals with multiple artists that split net income for their work 50/50 without forming a new company. Could something similar be done for a product without issuing stock or actual ownership in overall company?

RGMacEsq :

Yes. This would actually be contractual, rather than ownership. That is, you couldn't offer stock options in that wing, but could still have a contract saying that you will pay someone $X or %X of the profit made on that specific product. But again, that's subject to intensive accounting and would require that you be prepared to prove the actual amount, that you were not finessing the books, etc...

RGMacEsq :

Basically be able to answer the question "how do I know that this is the actual profit, and that you didn't divert the money, or spend it on meaningless or useless costs which were applied against the revenue, etc..."

RGMacEsq :

Did you have any other questions before you rate this answer?

Customer:

Just one last question - I've heard that if an LLC is making substantial money the franchise tax in California could end up costing more than corporate taxes. Is this true? Or would this not be the case for a single member LLC? I'd also heard that California doesn't allow single member LLC's (only C or S-Corps) but on the state website they mention single member LLC's, do you know if this law was changed recently to allow single-member LLC's?

RGMacEsq :

One moment...

RGMacEsq :

In California, limited partnerships, corporations, S corporations and LLCs must all pay the annual minimum franchise tax of $800; however, the LLC is also subject to an additional “fee” that was included in the original legislation that authorized the formation of LLCs in California. This fee is found in Revenue and Taxation Code Section 17942(a), which imposes a fee, in addition to the minimum franchise tax, which is determined by an entity’s “total income,” basically its gross revenues. Under this Section, the amount of the fee is determined as follows:


$0 for LLCs with annual gross revenues of less then $250,000;


$900 for LLCs with annual gross revenues of at least $250,000 but less than $500,000;


$2,500 for LLCs with annual gross revenues of at least $500,000 but less than $1,000,000;


$6,000 for LLCs with annual gross revenues of at least $1,000,000 but less than $5,000,000;


$11,790 for LLCs with annual gross revenues of $5,000,000 or more.

RGMacEsq :

The main thing is that this is on receipts, not profit.

RGMacEsq :

So it's possible if it's a high receipt, low profit margin situation (or no profit) that an LLC would be less advantageous. The reason is that you could have gross revenues of 5 million or more, no profit, but still have to pay this franchise tax.

Customer:

Ok, so that's just the franchise tax. The tax in general though would be better since income wouldn't be subject to double taxation, correct?

RGMacEsq :

Yes (again, assuming that you're having a profit). If you're operating at a loss for a few years, a corporate structure would be better, since you could take capital gain losses, roll them over, not have to pay the tax on the gross receipts, etc...

RGMacEsq :

Did you have any other questions before you rate this answer?

RGMacEsq, Attorney
Category: Business Law
Satisfied Customers: 12217
Experience: Licensed Texas General Practice Attorney
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