Business Entities
There are numerous ways in which a small business can be structured in Massachusetts.
The most basic, and least expensive to create and maintain, is a sole proprietorship. This is when someone simply conducts business under their own name. The advantage of this approach is that it costs nothing to “create” and requires little, if any, ongoing administration. In the vast majority of cases, this works fine. However, it does expose the business owner to personal liability for the business’s obligations. In many businesses the risk of financial liability is low, but never non-existent. Other businesses are riskier and warrant a structure that will provide some insulation from personal liability.
There are at least two options for a small business owner when desiring insulation from liability. One is the traditional closely held corporation. This entity is formed by filing Articles of Organization with the Secretary of the Commonwealth. The Articles set forth the name of the entity as well as its intended business activities and perhaps restrictions on transfer of shares. The corporation is owned by its shareholders. The governing body of the entity is its Board of Directors and the day-to-day operation of the company is conducted by its officers. The officers are usually President, Treasurer and Secretary or Clerk but there can be others such as vice presidents. It is not unusual for just one person to fill all of these positions in a small, closely held corporation. However, if you have more than one shareholder, you have to have an equal number of directors for two or three shareholders and at least three for more than three shareholders. The governing document of the corporation is its by-laws. These establish the rules under which the business of the corporation will be conducted. They will set the number of directors, the date of the annual meetings of shareholders and directors, etc.
There are ongoing administrative responsibilities in the corporate structure. The aforementioned annual meetings should be held, even if only one person is involved. Annual reports reflecting the names of directors and related information must be filed with the Secretary of the Commonwealth. Actions of the corporation, such as borrowing money or purchasing real estate, even entering a lease agreement, must be formally authorized by a written vote of the Board of Directors. For small corporations, the filing fee, and annual report fee, is $275.00.
A second option, and one that seems to be more popular these days, is a Limited Liability Company. As in the case of the corporation, an LLC does afford protection against personal liability. It is structured somewhat differently, however. An LLC does not have shareholders. The owners of the entity are its “Members”. Rather than officers as in a corporation, the day-to-day activities of the business are conducted by one or more managers. Rather than by-laws, the governing document of the entity is a Management Agreement. Creating an LLC is similar to a corporation. The document filed with the Secretary of the Commonwealth is a Certificate of Organization. This document identifies the business address of the entity, the name and address of the Manager and other related information, all of which becomes public record.
There are somewhat less ongoing administrative responsibilities in an LLC. Annual meetings, for instance are not required. Filing annual reports is required, as with a corporation. An LLC is more expensive. The initial filing fee and annual report fee is $500.00.
Both business organizations will provide the liability insulation desired, but only if certain practices are carefully and faithfully followed. It must be clear in all documentation related to the business that the public is dealing with the entity and not the individual. The entity should have its own stationary for business communication. Invoices should be under the business name. The manager (LLC) or officers (corporation) should have business cards that reflect their position with the company. Personal funds and company funds should never be comingled. Personal obligations should never be paid with company funds and vice versa. Separate checking accounts should be maintained. If the company needs an infusion of cash, it should borrow the funds from whomever and the loan should be in writing. Every year, annual reports should be filed timely and the annual fee paid. Failure to conduct business as described can lead to a court “piercing the corporate veil” and attach personal liability to the owner.
There are other business entities, including professional corporations and LLCs which will be the subject of future articles.