Dear Li’l Tommy,
You got perilously close to actually talking about how to set up a company last time, without saying much of anything in particular. Care to follow up? I’m not terribly interested in stew like that last guy, but my friend and I have a great idea for a board game and want to set up a company to start producing it. We’re going to call it WarBoats, to try to capitalize on the inevitable Battleship movie sequel. I’m thinking we should set up an LLC, but I don’t know how to go about it! Please help!
– Incorporator At Sea
While I’ll pass for now on the merits of your concept, let alone the pronounced probability that you’ll find yourselves on the receiving end of some very fun, very convoluted legal actions courtesy of Hasbro and/or Rihanna [i], I’m happy to help you limit your liability when that nice lady at the bus stop turns out to be a process server. The limited liability company, or LLC to its friends, is a form of business entity that combines a “traditional” corporation’s limitations on liability with the flexibility of a “traditional” partnership. Generally speaking, it’s the most popular, and probably the best, choice of entity form for most small businesses. And whatever that friend of your uncle who’s been a senior partner at a law firm since 1925 [ii] says, it’s hardly that novel anymore.
First, a word (or 281) on corporations. While the very, very first corporations sprung up either (a) to mine the quarries of Bedrock and provide a fun workplace setting for Fred Flintstone’s wacky antics or (b) during the Roman Empire [iii], the history of the modern corporation probably starts with the British East India Company and its suspiciously-similarly-named competitor the Dutch East India Company. These enterprises were established under charters granted by the state to explore far-flung lands, discover new types and sources of commodities, boldly go somewhere, and exploit the hell out of indigenous people and ecosystems in the name of profit. So, pretty much nothing has changed since 1602 [iv].
The defining characteristics of a corporation are that (a) it can be owned by one or more people or other entities, as its “stockholders,” (b) it is a separate legal entity from its owner(s) having an unlimited life [v]– i.e., it continues to exist even if the people who own all or part of it do not, and (c) that it affords its owners protection from the risks and liabilities of the business. For example, if a corporation owns a pet store where a marmot jumps out of its tank to bite someone, the corporation’s stockholders aren’t likely to be on the hook in the resultant lawsuit just for being stockholders (naturally, it’s a different matter if one of them was training said marmot in the art of combat or otherwise contributed to the vicious rodent attack).
Nice Marmot, Inc.
You may remember that I mentioned partnerships as well. Partnerships can be formally established, with some limitations on liability available, or they can just… sort of… well, happen [vi] when people engage in an enterprise together; the key positive feature of partnerships is that they are “flow-through” entities for tax purposes. That is, partners are taxed on their share of the partnership’s income whereas a corporation must (generally) pay taxes at the corporate level as well as on any distribution [vii] of income/profit. With an LLC, the default is that the members (the rough equivalent of stockholders or partners) are taxed as if they were partners (though you can choose to be treated as a corporation by the IRS).
There are literally millions of pages that can be and have been written on this stuff, by people far smarter and more boring than me, so let’s accept that the maker of WarBoats will be an LLC and move along.
In order to form an LLC, you need to first make the choice of where you’re going to form it. Delaware is very popular among corporate lawyers, for a variety of reasons that have sadly little to do with the natural splendor of Cape Henlopen State Park, and has a very simple formation and maintenance process–fill out a Certificate of Formation [viii], pay $90 and file it, remember to pay a tax of $250 each year and maintain a “registered agent” with a physical presence in the state. If you’re fortunate enough to not live in Delaware, you’ll probably have to register your business in your home state as well, which involves more taxes or fees and some other requirements [ix]. Next, set out the ground rules in your “Operating Agreement” or “Limited Liability Company Agreement”–a document which will govern how the members deal with each other and how the company is run [x], whether by members directly or “managers” (which you might need to specify in your formative document). (For a pretty decent example, see http://www.docracy.com/7128/llc-operating-agreement. Docracy is a pretty solid repository of free legal documents in general.) You’ll be off to the regatta in no time.
You’re gonna need a bigger boat,
Li’l Tommy Hagen
[i] She was so good in Battleship. Also that “Umbrella” video… am I right?
[ii] He might actually be a vampire. Better check on that.
[iii] Far more likely. But they probably ripped it off of an ancient Chinese or Indian culture, like literacy or noodles.
[v] Like that vampire guy from before. Seriously, stock up on garlic.
[vi] Bear in mind I’m keeping this as basic as possible. Search “de facto business partnership” if you want to know more.
[vii] Or “dividend,” derived from the drunkenly-slurred Old English “divvy’id’up’den.”
[viii] Handy form at http://corp.delaware.gov/llcform09.pdf, or you can pay a lawyer like $700 an hour to draft one.
[ix] Like New York’s publication requirement–a new LLC wherever formed must buy prescribed newspaper ads that no one will ever, ever, ever in a million years read, apparently to keep the newspaper industry on some sort of extremely annoying life support.
[x] Required in some jurisdictions (like NY), not in others (like DE), a good idea everywhere.
Li’l Tommy Hagen is a corporate attorney who’s practiced with a big law firm, in a couple of in-house positions, and as a solo advising tech startups. Nowadays, he has a special practice; he handles one client, and by the way, admires your pictures very much.
Note: This column is titled “This Does Not Constitute Legal Advice” because it does not constitute legal advice. If you want that, see an attorney.