Private Client

Privately-Held Businesses and Business Succession Planning

We help business owners transition their businesses. In conjunction with our Corporate and Securities practice area and our Tax practice area, we can help you form and maintain business entities to hold operating businesses, real estate or marketable securities. Business entities can help you manage business or investment operations, reduce exposure to liabilities, and retain or transition control. Business entities include limited liability companies, corporations and partnerships. When working with business owners, we consider family relationships and income and transfer tax issues.

Limited Liability Companies
A limited liability company (LLC) is a business entity that generally has liability protection similar to that of a corporation. However, for federal tax purposes, an LLC is treated as follows:

Disregarded Entities
If it has only a single member (owner), it is disregarded for federal tax purposes, unless it elects otherwise.

Partnerships
If it has more than one member, it is taxed as a partnership for federal tax purposes, unless it elects otherwise.

Corporations
An LLC can elect to be taxed as a corporation for federal tax purposes. It may further elect taxation as an S corporation, if every unit of ownership has identical rights to distributions and liquidation proceeds. LLC statutes are more flexible in many ways than are state corporate law statutes.

Our practice group works with members of the Tax and Corporate & Securities practice groups as appropriate to help you decide whether an LLC meets your business and tax planning needs. Below are examples of situations when an LLC might be appropriate:

Real Estate - Sole Owner
You hold one or more parcels of real estate. You would like to insulate your other assets from liability for what occurs on your real estate. Furthermore, you would like each parcel to be insulated from liability for what happens on each other parcel. A possible solution may be to form a separate LLC to hold each parcel. Because each LLC would be disregarded for federal tax purposes, forming the LLCs would not complicate your tax situation.

Real Estate - Co-Owners
You own real estate with one or more co-owners. One of your co-owners manages the property, or perhaps you have a management company manage the property. In some situations, co-ownership is considered a general partnership even if there is no formal partnership agreement. If you are considered a general partner under state law, you are jointly and severally liable for acts or omissions by your co-owners or those your "partnership" hires. Furthermore, if most, but not all, of the co-owners agree to sell or lease the property, the sale or lease cannot proceed without unanimous consent or court action. One dissenter could cause you to lose valuable business opportunities. Finally, if a co-owner gets into creditor problems, the creditor may take his place and try to sell the property prematurely, perhaps even going to court to force a sale. A possible solution may be to form an LLC to hold the property. The LLC may relieve you from joint and several liability and provide a mechanism for a majority to control the property. Any creditor who obtains an interest in the LLC would have no right to vote on how the LLC is run and should not be able to get a court order to sell the property.

Sole Proprietorship - Unsure of Best Entity for Tax Purposes
You start your own business. Initially, you want to keep it simple, as a sole proprietorship. Later, you may want to become an S corporation to avoid self-employment tax or a C corporation after making a public offering. You start as an LLC. Instead of transferring all of your assets to a new corporation when you later decide to change the LLC's tax treatment, you simply make an election for the LLC to be taxed as an S corporation or a C corporation.

Sole Proprietorship - Future Co-Owner
You start your own business. You expect to eventually have co-owners as your business grows. However, you do not want to have to re-title assets when you add your first co-owner. Perhaps you have a valuable lease, patent, copyright, franchise right, etc. that would be difficult to transfer. You may want to start as an LLC and admit your new co-owners as members of the LLC.

Multiple Owners, Coming and Going
In your profession or industry, it is common for new people to invest in your business or perhaps even to become co-owners without investing any cash (providing services instead). Similarly, it is possible that the business may split at some time in the future, each person taking her own share of the business with her, as often happens in professional firms. For federal tax purposes, partnership income tax may provide the most opportunity to minimize tax on new co-owners or on split-ups. As the only business entity taxed as a partnership in which generally no co-owner is personally liable, it is possible that an LLC may be appropriate.

One Business, Multiple Locations
Your business has several locations, whether in the same city or even in different states. You would like each location to be insulated from the liabilities of other locations. Your business could set up a separate LLC for each location, but for federal income tax purposes nothing has changed.

These are just some of the possible reasons to consider forming an LLC. We have experience integrating LLCs with clients' business objectives and estate planning goals. We also use several tools to try to transfer interests in LLCs free from estate and gift taxes.

An LLC formed in Missouri needs to register with the Secretary of State at inception. Future registrations are not necessary, except to the extent that the registration information changes. Missouri follows federal tax laws.

An LLC formed in Missouri can do business in another state. It just needs to register with that other state, and such foreign registrations generally are as simple as if the LLC had been formed in that state originally. Missouri apportions its state income tax consistent with the way many other states do. If all the business activities are conducted in that other state, generally the other state, not Missouri, would tax those activities.

Although forming an LLC in Missouri is often an excellent strategy for a Missouri resident, it is not always the best strategy. We have formed LLCs in other states as well.

S Corporations
An S corporation is a corporation whose income generally is taxed to its owners rather than being taxed to the corporation itself. Below are some examples of when it is possible that an S corporation may be appropriate:

Existing Corporation - Avoiding Double Taxation
An existing corporation would like to start paying dividends to its shareholders. However, as a regular corporation (described by tax practitioners as a C corporation), it would pay tax on its earnings, and its shareholders would pay tax on the dividends. The shareholders make an "S" election, so that they (rather than the corporation itself) are taxed on the corporation's earnings. The shareholders will not be taxed on dividends, to the extent that the dividends represent earnings while the corporation was an S corporation.

Existing Corporation - Paying Retired Shareholder-Officers:
One of the shareholders decides to retire but would still like the company to pay him the substantial salary he is used to receiving. The shareholders have never formally agreed what would happen when one of them retires. If the company pays "compensation" to a shareholder who is not working, the IRS could try to disallow a deduction for the payment, claiming that it is really a dividend. The shareholders make an "S" election, so that they (rather than the corporation itself) are taxed on the corporation's earnings. Each shareholder receives a pro rata share of the corporation's earnings. The shareholders will not be taxed on dividends, to the extent that the dividends represent earnings while the corporation was an S corporation. At the same time, the shareholders agree on a formula for how much compensation each shareholder-officer will receive, so that the retired shareholder can be sure that the remaining shareholders do not receive all of the profits through compensation.

New Corporation - Avoiding Double Taxation and Self-Employment Tax
As a new business owner, you are offended by the idea of double taxation—once when the company earns profits, and again when the company pays dividends. Even if a reduced tax rate applies to dividends, you need to consider federal and state tax at both the corporate and shareholder level. However, you don't like partnership income tax either, since the owners generally must pay self-employment tax (under which the owner in effect pays the company's and the employee's share of Social Security and Medicare tax) on all of their share of the company's earnings. Instead, you want to pay payroll taxes on what you receive as compensation and not pay self-employment tax on money that is reinvested in the business. As the business grows, you do not want to pay self-employment tax on a return of your investment, just on compensation you receive for services you perform. It is possible that an S corporation may be an appropriate entity. Our practice group works with members of the Tax and Corporate & Securities practice groups as appropriate to help you decide whether an S corporation meets your business and tax planning needs. We also use several tools to try to transfer S stock free from estate and gift taxes.

C Corporations
A C corporation is a corporation that is not taxed as an S corporation. It pays income taxes on its own earnings, and its shareholders pay income tax on any dividends they receive. Corporations whose stock is publicly traded are C corporations.

Some corporations are C corporations simply because they were formed before S corporation taxation was even available. They may have ignored or been unaware of tax planning opportunities. Or, they may not be eligible to be taxed as an S corporation, because they have too many shareholders, shareholders who are not eligible to own stock in an S corporation, or a capital structure that is inconsistent with an S corporation's requirement that all shares of stock have the same distribution and liquidation rights.

Other corporations are C corporations to minimize taxes. The federal income tax on the first $50,000 of a corporation's taxable income is only 15% (plus any applicable state taxes). The shareholders are not subject to income tax or self-employment tax on the reinvested income. More fringe benefits are allowed to C corporation shareholders than the owners of any other entity. If the shareholders do not take dividends, and later sell the company, even the most wealthy taxpayer could eventually pay federal capital gains tax of only 18%. Many special rules provide for even more favorable capital gains tax on the sale of stock in a C corporation.

Our practice group works with members of the Tax and Corporate & Securities practice groups, as appropriate, to help you decide whether a C corporation meets your business and tax planning needs. We also work with members of the Employee Benefits practice group to develop creative methods of compensating shareholder-employees in a tax-favored manner.

Partnerships (Limited Partnerships, General Partnerships, Limited Liability Partnerships)
In general partnerships, which are governed by the Uniform Partnership Act, all partners have management rights and are jointly and severally liable for the partnership's activities. A general partnership can be formed by an express agreement or through an activity in which co-owners work together to try to earn a profit (even if a general partnership was not intended).

A limited partnership is formed by filing a Certificate of Limited Partnership with the secretary of state for the state in which the partnership is formed. The Uniform Limited Partnership Act limits the rights and liability of limited partners and vests control in the general partners. The rights and liabilities of the general partners among themselves, including joint and several liability for the limited partnership's activities, are governed by the Uniform Partnership Act.

In recent years, the Uniform Partnership Act has added an optional feature to limit the liability of general partners of general or limited partnerships. This feature allows the general partners to limit their liability by registering the entity as a limited liability partnership (LLP) with the secretary of state. In Missouri, a limited partnership with an LLP registration is known as a limited liability limited partnership. However, Missouri LLP (or LLLP) registration often is not quite as easy as LLC registration. For more information about LLCs, go to Limited Liability Companies.

If you are doing business as a partnership and are concerned about protection from liabilities incurred by the business, we can help you determine whether registering as an LLP, converting to an LLC, converting a general partner to an LLC, or forming one or more LLC subsidiaries might be an appropriate strategy.

Buy-Sell Agreements
Buy-sell agreements plan for situations in which the owners of a business entity will buy or sell their ownership to each other. These agreements determine the price and payment terms and restrict who can own an interest in the business. In a limited liability company (LLC), the buy-sell agreement is integrated into the operating agreement. In a partnership, the buy-sell agreement is integrated into the partnership agreement. In a corporation, whether a C corporation or an S corporation, the buy-sell agreement is integrated into a shareholders' agreement.

Key circumstances triggering a buy-sell agreement may include the owner's divorce, bankruptcy, incapacity, or death. Special considerations may apply to an owner who works in the business, especially if the ownership interest was granted as an employment incentive. Also, owners like to choose their partners, so frequently the buy-sell provisions restrict transfers to outsiders.

In LLCs and partnerships, voting and management rights are not transferred automatically when ownership is transferred. An owner without voting and management rights is called an assignee. LLC and partnership buy-sell provisions specify whether a transferee is an assignee or has voting and management rights.

An S corporation may revert to a C corporation if too many shareholders own stock or if stock is transferred to an ineligible shareholder. Special buy-sell provisions are required to preserve the S election.

Creating Nonvoting Ownership Interests to Transfer Ownership While Retaining Voting Control
Even if you are interested in transferring ownership to your children, you probably want to control the business for as long as you can. We have techniques to do this for each type of entity.

For corporations, whether S corporations or C corporations, we may recapitalize the corporation into voting stock, which typically owns 5% or less of the distribution rights, and nonvoting stock, which typically owns 95% or more of the rights to distributions. Then you can sell or give all or part of your nonvoting stock to your children, transferring up to 95% of your distribution rights. However, you retain full control by retaining all of your voting rights.

Similarly, you may consider transferring marketable securities or real estate to a limited partnership (perhaps combined with a limited liability company or LLP registration to minimize liability exposure). You retain the controlling general partner interest (typically 1% of the rights to distributions), directly or through an entity. You transfer all or a portion of the limited partner interests to your children.

A nonvoting ownership interest is worth significantly less than a controlling interest. This reduction in value is called a discount for lack of control. Also, an ownership interest that is not publicly traded is more difficult to sell than an interest in an entity that is publicly traded. This reduction in value is called a discount for lack of marketability. Discounts for lack of control and lack of marketability can significantly reduce the estate and gift tax value of the transferred property. Sometimes it is appropriate to structure an entity to qualify for such discounts, and sometimes it is more beneficial to try to avoid such discounts.

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Choosing a Legal Entity to Hold Real Estate