Practice Area: Business Law

Starting your own business can be rewarding and energizing. And yes, it can be a bit stressful. You have numerous essential decisions to make during the critical start-up phase. One of the most significant decisions is choosing a business structure.

It’s best to seek counsel from an accountant, business counselor, and business lawyer when deciding. Your business structure impacts day-to-day operations, taxes, personal liabilities, how you raise money, and more. So when choosing a business structure, do so wisely.

Factors That Determine Your Business Structure

You can choose several options when setting up your business, including a sole proprietorship, partnership, Limited Liability Company (LLC), or corporation.

The one you select depends on several factors:

• Flexibility: Determine your expectations for business growth and ensure your structure provides ample flexibility to accommodate that growth. Generally, an LLC offers the most flexibility for growth potential.
• Liability: You’ll need to examine the risks and your potential personal liability. You’ll also need to consider insurance, credit, and assets. For example, corporations offer the most significant liability protection.
• Taxes: Sole proprietors, partnership owners, and S corporations classify income as personal income, while a C corporation separates business income from personal. Your structure impacts tax burdens because business income is taxed differently than personal income.
• Operating Costs: Keeping updated records and paperwork can be costly, so you will also want to factor in these expenses. Sole proprietorships are usually the business type requiring the least amount of time and money invested in recordkeeping.
• Fundraising: Your structure dictates how you raise funds. For example, sole proprietorships typically can’t offer stock, whereas corporations can.
• Control: A sole proprietorship is typically the best route if you want complete control over the business. However, you also assume total liability for potential lawsuits, taxes, and losses.

If you need more information and guidance on the factors impacting choosing your business structure, talk to a business formation attorney in our Bucks County or Montgomery County law offices.

After Choosing Your Business Structure, Can You Change It?

The answer is yes. Actually, it happens quite often. For example, many businesses change from a simple structure like a sole proprietorship or partnership to a more complex structure like an LLC or corporation.

A business structure change can happen for any number of reasons:

1. Personal Liability: As businesses grow, so do the risks. Consequently, the owner of a sole proprietorship may want to remove their liability by moving to an LLC or corporation.
2. Taxes: Generally, tax considerations are the prime motivator for a business structure change. For example, the IRS views businesses as partnerships or corporations. The latter pays taxes on profits before distributing those profits to shareholders. However, the former is a pass-through entity where profits and losses go through the individual partners and require reporting on tax returns.
3. Attracting Investors: Venture capitalists and angel investors prefer investing in C Corporations for tax purposes. In addition, a more formal structure like a corporation or LLC establishes the business arrangement upfront and what the options are.
4. More Employees: As your employee numbers increase, liabilities attached to them do as well. So moving from a sole proprietorship to an LLC or C Corporation protects you.
5. Financing: Many banks want to see a more formal business structure before providing funding.

Changing your business structure differs based on your initial business setup. For example, moving from a sole proprietorship to an LLC, partnership, or corporation requires registration with the state where you conduct business.

You’ll want to create an LLC operating agreement when moving to an LLC. Moving to a corporation requires selecting officers, a board of directors, and shareholder agreements.

You’ll want to involve a business lawyer to help you sort through the details and ensure you manage all the requirements for the business structure change.

What are the Types of Business Structures?

How to form your business legally is controlled by the law of the state where you create your business. Your decision must consider liability, taxation, and recordkeeping.

The most common forms of business structures are:

• Sole Proprietorships
• Partnerships
• Limited Liability Companies (LLC)
• Corporations

So, let’s take a closer look at which to select when choosing a business structure.

Sole Proprietorship

Generally, this option is the most simple and most common. With a sole proprietorship, your business is unincorporated and run entirely by one person – you as the owner. Although this structure entitles you to all the profits, you are also individually responsible for all debts and liabilities.

You obtain the necessary licenses and permits for your business when operating as a sole proprietorship. However, they vary by state and industry. Also, if you operate under a business name, you may legally have to file for a fictitious name.

In many states, such as Pennsylvania, registering a fictitious name does not protect the name or give you any right to block others from registering the same fictitious name. Instead, it serves only as a notice to the public that you are trading under that name. In addition, you must file with the IRS for an Employer Identification Number (EIN) if you hire employees.

Because you are the sole owner, your business entity is not taxed. Instead, you report the income and losses on Schedule C to Form 1040.

Partnerships

A business is legally structured as a partnership when two or more people share ownership. As a result, each partner contributes to aspects of the company, and both share liability and income.

In choosing this business structure, developing a legal partnership agreement is essential to document how you will make future decisions. In addition, the contract should include terms for dissolving the partnership if necessary. Although a legal agreement is not mandatory, it’s strongly encouraged since operating a business without one is risky.

If you choose a partnership structure, you can form a general partnership. Consequently, everything is divided equally among the partners. On the contrary, a limited partnership allows a partner to have limited responsibility.

You can register partnerships with the state with an established business name and all licenses and permits. The business must also register with the IRS and file an “annual information return” to report its income and losses.

The company itself does not pay income tax. Instead, profits and losses are “passed through” to the partners.

Limited Liability Companies

An LLC, or Limited Liability Company, is a legally recognized business structure combining corporate and partnership aspects.

To form an LLC, you must first choose a name that complies with state rules. The next step is filing articles of organization with your state’s business filing office, typically with the Secretary of State. These are generally short and simple documents that take only a few minutes to fill out.

After filing with the state, it’s imperative to work with a business lawyer to create an LLC Operating Agreement that sets legal rules for the ownership and operation of the company.

Finally, make sure to obtain all licenses and permits required. Also, some states may ask you to publish notice that you intend to form an LLC in a local publication.

Corporations

Becoming a legally recognized corporation is more complex. First, states determine the formation of corporations. In addition, corporations pay corporate income tax at the federal and state levels.

Certain small corporations can elect Subchapter S status and be taxed like a partnership, avoiding corporate taxes. In that case, profits flow to the shareholders as ordinary income.

In a corporation, the business becomes a corporate entity, and the corporation is taxed and held legally liable for all business responsibilities.

The business first needs to choose a corporate name not used by another corporation or limited liability company and prepare and file articles of incorporation to become a corporation in the Commonwealth of Pennsylvania.

Pennsylvania corporations also need an agent for service of process in the state that agrees to accept legal papers on the corporation’s behalf. However, a corporation with a Pennsylvania address need not have a separate agent to service the process.

To complete the legal requirements of forming a corporation, you must publish legal advertising, create corporate bylaws and hold an organizational, board of directors-style meeting.

You can learn more by reviewing A Guide to Business Registration in Pennsylvania.

Which Business Structure Do I Choose?

This answer depends on your business, current ownership structure, and goals. You should assess your individual needs and choose the proper business structure.

It’s best to talk with business experts and a business lawyer near you to guide your selection. They can also ensure you complete any required paperwork and file it appropriately.

U.S. News cited our law firm as a “Best Law Firm.” So, you can depend on our attorneys to provide the best advice, particularly as a Pennsylvania Business. Our firm can also support you with various legal services, including business litigation, intellectual property, restrictive covenants, and workers’ compensation.

The information above is general: we recommend you consult an attorney regarding your circumstances. This information does not represent legal advice or a substitute for legal representation.

 

 

An operating agreement is essential if you're forming a limited liability corporation (LLC). An LLC operating agreement, also referred to as an LLC agreement, establishes the business' financial and managerial duties, including rules, regulations, and provisions. In short, it governs the internal operations of the company.

As an LLC, the operating agreement addresses various issues typically governed by the law that enables LLCs in the jurisdiction of formation. In addition, these laws include provisions that protect members from personal liability for the business's debts.

Only California, Delaware, Maine, Missouri, and New York require an LLC agreement. Even though Pennsylvania has no requirements, if you're forming an LLC in the Commonwealth, it remains a worthwhile consideration during business formation.

It's best to talk with a business lawyer near you to ensure you create a sound operating agreement.

Basic Provisions of an LLC Agreement

At the very least, an LLC agreement should cover some essential elements:

1. The name of the LLC, including the address.
2. A statement of intent indicating the agreement is by state laws.
3. The business purpose, including its nature.
4. The term generally shows that the business will continue until terminated or dissolved.
5. Treatment of taxes
6. How new members acquire a business interest

Other Items Covered by an LLC Operating Agreement

An LLC operating agreement is generally brief, ranging from five to 25 pages. But it presses owners and members to agree on financial and operational arrangements.

The main goal of the operating agreement is to name members of the LLC and their percentage of ownership. Apart from that, most LLC operating agreements cover six critical sections:

1. Ownership: Who owns the business, and what is their percentage of ownership?
2. Management and voting: Does each member have a single vote, or is voting based on the percentage of ownership?
3. Capital contributions of members: Is ownership based on the capital contributions of the members?
4. Membership: What happens if a member elects to leave the LLC?
5. Distributions: How will the organization share profits and losses? For example, if a member owns 25% of the business, will they receive 25% of the profits and losses?
6. Dissolution: What happens if your business dissolves? Who is responsible for liabilities, and how will assets get dispersed?

Although these areas represent primary considerations, your agreement can cover additional areas such as business decision-making, selling interests, right of refusal, dispute resolution, meetings and meeting protocols, and more. Many also consider forming an LLC for an investment property portfolio. 

Why is an Operating Agreement Important?

At the very least, an LLC agreement provides proof of ownership for banks and investors.

More importantly, they help prevent future conflicts and disagreements about significant business decisions because the contract covers terms around most major functions and opportunities.

That's critical. For example, even if you feel you've already come to verbal agreements with co-owning members, misunderstanding may arise as years pass or complications occur. By having terms outlined upfront, you eliminate future conflict.

An LLC operating agreement also protects your company's status as a limited liability structure. Otherwise, your LLC might resemble a sole proprietorship or partnership. And that opens the door to personal liabilities for members.

Overriding State Rules for LLC Operation

Moreover, your state's default rules for how an LLC operates apply without an operating agreement. For example, every state has laws on LCC management, admitting new members, dissolution, and other aspects of governance.

Unfortunately, those rules focus on applying the least common denominator, leading to unwanted results. For instance, your state may, upon your death, default your business to a spouse or child.

However, if you want someone else to assume responsibility for your company following your death, your operating agreement needs to state that. You can override Pennsylvania's default rules by having an LLC operating agreement.

Do I Need a Business Lawyer to Draft the Agreement?

Thanks to the internet, free templates are available to draft an LLC operating agreement. Indeed, here's a resource for creating a PA operating agreement. But remember that the LLC agreement governs your company and its members, so it requires careful consideration.

At the very least, if you want to draft your agreement, take the time to run it by a business lawyer for potential issues. Or better still, have an experienced business lawyer draft a contract for your review. And make sure that the lawyer is familiar with Pennsylvania law.

Need Some Help Drafting an Agreement?

Ultimately, you should construct an LLC agreement to the needs of each unique business. Agreements should comply with the laws of the state where the company operates.

If you're forming an LLC or are already operating a company and need help drafting an LLC operating agreement, get in touch with our local law offices in Bucks County, PA, Montgomery County, PA, and Camden County, NJ.

Our business lawyers can support you with business formation and operating agreement creation. Our law firm can also help you with various other legal concerns, including workers' compensation, employment law, and real estate.

U.S. News recognizes High Swartz on the"Best Law Firm" List and cites 14 of our attorneys on the "Best Lawyers List."

For more information, contact Joel D. Rosen at (610) 275-0700. Visit his attorney profile here.

The information above is general: we recommend you consult an attorney regarding your circumstances. This information does not represent legal advice or a substitute for legal representation.

 

Many business owners had insurance policies that included “business interruption” coverage. If the pandemic isn’t business interruption, what is?

As the global pandemic caused by COVID-19 swept into the United States and stay at home orders and mandatory business closures rolled out of governors’ offices like water over Niagara Falls, business owners, small, medium and large, sought out help from any source possible. Unfortunately, “business interruption” insurance policies have many exclusions and what a layperson would assume would be included is actually excluded from coverage.

Business Interruption in many cases is being linked to one thing

It seems as though the insurance industry linked arms and denied all claims for business interruption caused by the pandemic. Business interruption coverage is usually found in property coverage; meaning there must be property damage that causes the business interruption. The insurance carriers have taken the position that government shut down due to a virus is not covered.

What if a virus is not excluded in my policy? Is my business covered then?

Some policies do have specific exclusions for viruses and mold, among other things. But that raises the question, if a virus rises to the level of being specifically excluded in some policies, what if it is not excluded in my policy? Wouldn’t my losses be covered then? It depends on the type of policy and the language in the policy.

Courts in some jurisdictions have found that business interruption coverage is triggered where “property” is rendered unusable or unfit for its intended purpose, including being contaminated, even where there is no physical property damage.

Don’t throw away those receipts just yet

The approach taken by the insurance industry has given rise to numerous lawsuits seeking coverage under common business interruption clauses under several different theories. More than a dozen cases have already been filed seeking to have state and federal courts in various jurisdictions determine that losses due from closure as a result of the virus actually are included in these property damage policies. Some cases rely on the theory that the property is contaminated as a result of the virus. Some argue that under an “all-risk” policy closures due to orders of civil authorities are covered by the policy’s broad language.

States vs. Insurance Carriers

Not waiting for a decision in these pending cases, Travelers Insurance has filed a declaratory judgment action seeking an order that losses from temporary closures due to governmental actions taken to slow the spread of the pandemic did not result in property damage and was not covered by the Business Income loss provisions of its policy.

And numerous states, including Pennsylvania, have pending legislation to retroactively require insurance carriers to honor these claims (especially for small business owners) with compensation to the carriers coming from other funds.

This is still an ongoing fight, with points of law from prior litigation supporting both sides of the argument. How various courts decide the issue may determine whether business owners have valid claims under the terms of their own policies. It may still come down to the language in a specific type of policy and what exclusions are spelled out. But the approach initially taken of turning down all claims may not hold up. The courts may “deny” the carriers’ claims; an irony not lost on many.

As this is still an evolving issue, you may want stay in touch with your broker or counsel if you have business interruption insurance and you have losses due to state mandated closures. If you have questions regarding your coverage and whether or not you are covered, please contact Joel D. Rosen or one of the business attorneys here at High Swartz at 610.275.0700.

Feeling sick about your business during these uncertain times? Doylestown Attorney Donald Petrille offers a to-do list for small business owners that can help position themselves for what lies ahead.

The COVID-19 virus biggest casualty so far has been our small business community. Washington is working on a number of measures to give our small businesses some form of relief while business are in a forced shutdown in the name of public health. The Families First Coronavirus Response Act was initiated to help many businesses address their needs. Employment law attorney Jim Shrimp talks about it in more detail here. And if you feel the need to speak with a small business lawyer near you in Montgomery and Bucks Counties, we’re always available.

What can small businesses do right now to mitigate their issues?

We understand that small business often work on very thin margins, and they require a dynamic community to thrive. Entrepreneurs and business owners need to take action where they can. Below are several items our clients can do to mitigate the effects of the current economic environment on their businesses:

Contact you lender. Most lenders are working to create relief programs to keep their borrowers in business. Communication is always the best option when you face uncertainty.

Contact your insurance agent. Many of our clients have some form of business interruption insurance. This may be a time when it is effective. Some may even have force majeure clauses. These clauses can protect business owners from various events out of their control like a pandemic or tornado. Attorney Thomas Rees goes into fuller detail here.

Review your marketing plan. The current operating restrictions will not be in place forever. How can you position your business to grow and take advantage of pent-up demand once restrictions start to ease? Keeping your employees, clients, and customers informed should be your main priority. Take a look at your marketing expenses. A good rule of thumb is that if a marketing endeavor can’t be analyzed and reported, you never know if it’s worth your time and money. What parts of your marketing plan fall under that category?

Review your IT infrastructure. This may be an opportunity to review how you business receives and delivers services. There may be an opportunity to reduce overhead in the long term by changing your business model now.

Explore Relief Funds. The Commonwealth Financing Authority and Pennsylvania Industrial Development Authority has identified new relief programs for small businesses.

Plan for the long term. See what operations and financial products you can restructure. Review and improve your staff capabilities. No one can predict what business will be like after this event. But it’s certain that this event will end and people will need certain services more than others. Successful business plans will address those needs.

Stay Informed. Go to sites such as SBA.gov and your state and federal legislators’ websites to get up to date information on the resources available to help your business through this uncertain time.

Talk to a Small Business Lawyer Near You Today

We know the future is uncertain. Together, we can get through this unique time and help each other prosper! If you are in need of legal services relating to what your small business game plan should be at this time, contact our law offices in Doylestown and Norristown. Call 610-275-0700 or email Don Petrille at dpetrille@highswartz.com.