(Potentially) Complicated structuring of online business

[swsmith310]

Jurisdiction

California

I run an online store importing custom goods from overseas. I have 2 partners with varying levels of equity in the business, one partner is set up as an S corp in CA, the other is my other founding member (an individual). I live in California where I run the company from my home on my laptop. When an order is placed, it is done so through our website and shipped directly from our distributor in China, to the customer. I never see or touch the product.

We've been in business for a couple of years, and I opened a separate bank account and cc (under my name) that are dedicated to be used only for business purposes. I have never taken any money out of the business for personal use. Every dollar earned was put into the account or spent on business related activities. None of the partners have seen any personal gain from the business.

My question is about how to transition from the way we are structured today to an actual business entity. We recently have begun marketing efforts and have seen a recent influx in orders (just under $3k so far this month in sales). I want to make sure that the company is set up correctly and efficiently but we really have very limited cash, so we are very price conscious. I'm not sure where I stand in terms of legality of the business over the past couple years, and would like to remedy it retroactively, as well as be set up for business in the future.

I set up a "free consultation" with a local attorney who says that "this type of work is the bulk of his business". Can anyone provide insight into how I should prepare for this meeting? What questions I should be asking, what to expect in terms of costs (one time / ongoing), and how to know if he is likely to do quality work.

Any feedback is appreciated as I feel a bit overwhelmed thinking about the importance of this step in my business. Thanks!

 

[army judge]

Can anyone provide insight into how I should prepare for this meeting?

You need not prepare for the meeting.

You should already be prepared, and all you need to do is ask the questions you've posed here.

The conversation will meander towards potential tax liability (local, state, federal) and how you go about setting that right.

 

[adjusterjack]

Go to the appointment and let the attorney ask YOU questions about your business. That's how it works.

Then he can tell you what he can do for you and you can decide if you want to pay for it.

 

[Tax Counsel]

Any feedback is appreciated as I feel a bit overwhelmed thinking about the importance of this step in my business. Thanks!

I'll start with a bit of background information for you. S-corporation is purely a tax term — when you set up an entity with the California Secretary of State (SoS) you don't get an option to set up a S-corporation. Instead, when you go to the SoS you have the option to form a corporation, limited liability company (LLC), limited partnership (LP), or limited liability partnership (LLP). Under federal tax law any of these entities may elect to be taxed as a S-corporation (which means it has elected to apply the provisions of subchapter S of the Internal Revenue Code (IRC), hence its name). So telling me that one of the partners is a S-corporation is helpful in that I know the tax treatment for it, but it doesn't tell me what kind of business entity it is under state law — corporation, LLC, LP, or LLP. The lawyer you consult likely will want to know that. A business enterprise that has more than owner but is not organized as any kind of business entity with the SoS is a general partnership.

With that in mind, as you describe it the business is currently a general partnership with the partners being two individuals and one entity (though I don't know what type) that has elected to be taxed under subchapter S of the Internal Revenue Code (IRC). With a general partnership all the partners — you, the other individual, and the business entity — are all fully liable for the debts of the business. As you move forward to get investors, particularly those who want a stake in the business, that liability exposure will be a concern to smart investors. They'll not want to be liable if the business ends up owing a lot of money. Using a corporation, LLC, LP, or LLP can give the passive investors protection against that possibility. It can help you too, though you'll still be liable for your own negligence and will be liable for debts you personally guarantee.

Do you have a written partnership agreement for this business enterprise? If not, you need to start working on an agreement that lays out exactly what the deal is. You should always have that when going into business with others. And ss you bring in investors, that becomes even more important. They'll want to see the agreement and know how things are going work. If you have that agreement, the lawyer will want to see it. If you don't, the lawyer can help you get one together.

Have you filed federal and state partnership returns for this business? If the answer is no, you need to fix that ASAP. The late filing penalty for partnership returns is very expensive and it's going to keep running up until you file the returns. Investors will likely want to see the returns, too, as verification of how well the business is doing.