Other Business Structures & Considerations

Question 1

What are members’ rights in a limited liability corporation (LLC)?

Answer 1

The same rights as partners in a general partnership – they can manage the company barring any contrary agreement

Essentially, they have the rights of general partners with the liabilities of limited partners

Question 2

How many members are needed to form a LLC?

Answer 2

Only one, and there is no limit on the number of owners (unlike an S corporation)

Question 3

Who is the manager for a LLC?

Answer 3

An elected officer, effectively the president of the company

LLCs do not need to have a manager, and a manager does not need to be a member

Question 4

What must be filed for a LLC?

Answer 4

Articles of organization – very similar to articles of incorporation

Question 5

What do LLC members typically enter into?

Answer 5

An operating agreement – a contract among the members explaining how the business will be run and what rights members will have if a member dissociates

Question 6

How are LLCs dissolved?

Answer 6

The rule used to be that LLCs were dissolved in the same way as general partnerships

Now, even without any members, an LLC can continue if other persons with an interest in the LLC elect members to continue the business

Question 7

If a LLC dissolves, in what order are claims paid out?

Answer 7

(1) to creditors
(2) to members for their capital contributions
(3) to members for their undistributed profits

Question 8

What is a sole proprietorship?

Answer 8

A business run by one person (the owner) which is not legally distinct from him

Thus, the owner’s interest cannot be transferred without dissolving the business, and it cannot be partially transferred at all

Question 9

What are the benefits in starting a sole proprietorship?

Answer 9

It is much less costly to form, having no requirements outside of those generally governing businesses (e.g. hiring practices)

SPs do not need to register to do business in other states, either

Question 10

What are some general characteristics of a sole proprietorship?

Answer 10

• managed by one person without needing another’s consent
• lasts as long as the owner wishes, up until his death
• owner has unlimited liability

Question 11

How might a sole proprietorship have a more difficult time with obtaining financing?

Answer 11

Lenders will want to consider both business and personal debts, which can make application processes more difficult

This usually causes sole proprietorships to be small

Question 12

How is a sole proprietorship taxed?

Answer 12

It does not have any separate tax implications – it is mixed with the owner’s income tax return

A one-member LLC is taxed the same way

Question 13

How are partnerships and limited liability companies taxed?

Answer 13

They are mere “conduit” entities – income and loss (as well as distributed gains and losses) are passed on to the individual partners

Distributed gains and losses are taxed even if the distributions are not actually paid out

Question 14

What is the general rule for taxing entities with two or more people?

Answer 14

An entity with two or more people – if it is NOT a corporation – will ordinarily be taxed as a partnership

Question 15

Is the default status for a corporation C or S?

Answer 15

A corporation, by default (i.e. without electing otherwise), is a C corporation

Question 16

If the corporation distributes property to shareholders, whether in liquidation or dividends, what are the taxable implications?

Answer 16

Dividends are treated as taxable income to shareholders

The corporation can record a gain or loss when distributing property (e.g. if its FMV is different from when it was first acquired)

Question 17

What are the tax implications for stock dividends?

Answer 17

Because stock dividends cause the value of each stock to decrease proportionately, there is no transferred value to be taxed – thus stock dividends are not taxed as income for the shareholders, nor does the corporation report any gain or loss

Question 18

Under what circumstances might salaries be treated as effective dividends?

Answer 18

If an employee for a corporation is also a shareholder, then one way to avoid double taxation is to increase that employee’s pay as a de facto dividend

Thus, if the IRS determines a salary to be unreasonably high, they can treat it as non-deductible or as a “constructive dividend”

Question 19

How does an S corporation differ from a C corporation?

Answer 19

S corporations avoid double taxation by limiting taxation to the shareholder level

Question 20

What are the requirements for electing S corporation status?

Answer 20

(1) 100 shareholders max (family members count as one, voting trusts do not)
(2) only one class of stock (different voting rights are not different classes)
(3) shareholders cannot be nonresident aliens, corporations, or foreign trusts
(4) consent of all shareholders, including shareholders from past taxable year

Question 21

What corporations are disqualified from electing S corporation status?

Answer 21

(a) some financial institutions
(b) insurance companies
(c) corporations with 80% subs
(d) members of affiliated groups
(e) companies with a possessions tax credit
(f) domestic international sales corporations (DISCs)

Question 22

Can S corporations have subsidiaries which are also S corporations?

Answer 22

Yes, and these are called Q subs