Technology Companies Practice Tax Practice Goodwin Procter LLP Goodwin Procter LLP

Transcription

1 Technology Companies Practice Tax Practice 2010.

2 Entity Type Number of People Separate Entity? Limited Liability Formation/ Existence Formalities C-Corporation 1+ Yes Yes Filings/Fees On-going S-Corporation 1+ Yes Yes Filings/Fees On-going Limited Liability Company 1+ Yes Yes Filings/Fees On-going 2

3 Liability Taxation Management and Control Continuation of Business Formal Requirements and Fees 3

4 Tax issues Will the business generate taxable income and, if so, how much? Will the business generate tax losses? The number of owners and who they are How the owners intend to share profits What is the exit strategy? Will the business take on new owners in the future? 4

5 Double Taxation (C-Corporation) The corporation is taxed as it generates taxable income The shareholders are taxed on those same dollars when they receive cash dividends (i.e., distribution of the profits) Pass-through Taxation (S-Corporation and LLC) The entity does not pay tax on the income it generates; tax liability is passed through to the owners of the entity (i.e., is reflected on their individual income tax returns) 5

6 Example: ABC earns $100 before taxes in Assuming that the federal corporate tax rate is 35%, the federal ordinary income tax rate for individuals is 35% and the corporate dividend rate for individuals is 15%, how much will the individual owners realize in 2009? 6

7 Example (Cont d): C-Corporation: $100 corporate income is taxed at 35%, leaving $65 of net income. Assuming all earnings are distributed to the shareholders, the individual shareholders will pay $9.75 of federal income tax ($65 x 15%) and have $55.25 of cash. 7

8 Example (Cont d): S-Corporation: $100 corporate income. Since there is no entity level income tax, the stockholders take into account their share of the $100 income and receive $100 in distributions. After payment of federal income tax at a rate of 35%, the stockholders have $65 of cash (compared with $55.25 for individual stockholders of a C-Corporation). Limited Liability Company: Same as the S-Corporation 8

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10 ! "# Capital structure Equity compensation Efficient/familiar to all parties Stock sale/merger may be done tax free Limited liability 10

11 ! "$ % Stockholder Liability Liability is generally limited to the consideration paid for the stockholder s stock provided that the shares are fully paid for and the corporation is adequately capitalized If a corporation is under-capitalized or neglects corporate formalities (e.g., holding meetings, maintaining minutes, etc.), its stockholders may lose their limited liability in litigation 11

12 &! " $ Hold regularly scheduled meetings Hold special meetings or obtain written consents Entering into a new lease Entering into a substantial funding commitment Entering into any other significant contractual agreement Changing an officer s salary Issuing new equity interests Keep good records (Minute Book) Foreign qualifications 12

13 &! "# Corporate formalities Taxed at entity level Asset sale subject to double tax 13

14 ! "# Pass-through taxation Limited liability as a corporation Familiarity Maximum flexibility upon liquidity event (asset or stock sale) Employee compensation and benefits 14

15 &! "# Limits to ownership 100 shareholders or less Must be U.S. citizen or resident, exempt organization and certain trust Capital structure Only one class of stock No preferred (non-voting common okay) Big-S tax in Massachusetts at state level; other states may have similar issues Conversion to LLC Distributions of appreciated property generally not tax-free-- conversion to LLC often results in tax Corporate formalities 15

16 '($ Must file Form 2553 to elect S-Corporation status If filing invalid or if terminated, corporation will be taxed as C-Corporation Filings must be made within two months and 15 days after incorporation to apply to initial tax year All shareholders must sign the election form 16

17 $ % $

18 ! Flexibility Statute defers to the LLC agreement Control/governance Multiple classes of equity A single-member LLC is disregarded as an entity separate from its sole owner for U.S. federal income tax purposes unless it elects to be taxed as a corporation. It, therefore, has the same U.S. federal tax treatment of a sole proprietorship, with the benefits of liability protection. If an LLC has two or more members, it is taxed as a partnership unless it elects to be taxed as a corporation 18

19 ! Accommodates any type of investors, although certain investors may have tax reasons why they prefer not to invest through LLCs, such as: Foreign investors Tax-exempt Sale of assets has tax benefits to both seller and buyer 19

20 &! Flexibility can cause complexity Expensive Employees/Benefits Self-employment tax Benefit plan restrictions Can t deduct fringe benefit contributions Traditionally, investors generally don t like/aren t familiar with LLCs (not as true today) 20

21 )$% % A member has no liability beyond their initial investment, even if they actively participate in or control the LLC s management To put it another way, only the assets of the LLC are at risk (not the member s personal assets) Members (and managers) may be indemnified by the LLC 21