1. Introduction
This summary contains an overview of many of the forms of business
organizations available in the United States. Please not that, due to the
federal system in the United States, the forms of business organizations
available and the rules regulation these forms may vary from state to state. In
addition, both federal and state tax treatment should be taken into account in
selecting the form of business regulation. In deciding which form to utilize ,
one should consult with an attorney and weigh the advantages and disadvantages
of each particular form. Typically, the most important factors in making such a
decision are liability and tax consequences.
2. Legal Forms of Business Organizations
2.1 In General
A number of business forms are
available to carry on business in the United States. The following briefly
outlines the basic choices among the forms of business organizations available
for use in the United States in general. Although each state in the U.S. has
adopted its own laws and regulations governing the formation and operation of
the various forms of business entities, the fundamental laws do not vary
significantly from state to state. The effect of choosing one form over another,
however, may be significant. Tax and liability considerations are usually the
most important factors in determining the most appropriate form of business
entity, as tax and liability consequences vary according to the type of entity.
No matter what form is chosen, establishing a business in the U.S. is
comparatively quick and inexpensive. The decision whether to utilize a
particular form should be made in consultation with an attorney. The following
business forms are the most commonly used:
2.2 Sole Proprietorship
The sole proprietorship is the
most basic business form. In a sole proprietorship, the business and its owner
are the same legal person, i.e. one person owns all the assets of the business
and is solely liable for all the debts of the business. In other words, there is
no limited liability insulating the owner from his business. The regulation of
sole proprietorships is minimal. In certain circumstances additional licenses
may be required, for example, a restaurant selling alcohol to its consumers will
be required to obtain a liquor license.
Advantages. Simplicity is the
greatest advantage of a sole proprietorship. They require no legal action and
are consequently easy to start. There are generally no formal requirements for
operating in this form, other than registering the true name of the business
owner if the business is conducted under a trade name. Management of the
business is left solely to the owner. Especially very small businesses with no
initial capital benefit from the initial savings.
Disadvantages. The owner is
personally liable for the debts and obligations of the business to the full
extent of his personal property and assets. The capital of the business is
limited to the cash and credit of the owner.
Tax Considerations. The
proprietorship itself is not a taxable entity. The sole proprietor reports items
of income and expense of the business on his personal tax return. The sole
proprietor’s business and personal income tax returns can be combined and
business losses are easily deducted from personal income.
2.3 Partnerships
2.3.1. In General
A partnership, as the name
implies, is a business entity in which two or more co-owners join efforts. In
many aspects, the general partnership is a counterpart to the sole
proprietorship.
2.3.2. General Partnership
In General. A general partnership
is a contractual association of two or more persons or entities to operate a
common enterprise and to share in the management, as well as in the profits and
losses of the enterprise. Basically, a general partnership is a proprietorship
with more than one owner. A written agreement among partners is not mandatory
but is often desirable. The partnership agreement generally includes provisions
governing the sharing of profits and losses, duties of the partners, and
prescribes ways for joining and leaving the partnership.
Advantages. As with a
proprietorship, flexibility and simplicity of formation and operation are the
significant advantages of a general partnership. In addition, the combined
capital and credit of each partner is available for the partnership. Tax
consequences are "passed through" to the partners. A partnership may specially
allocate items of income, loss, deduction or credit to different partners,
subject to certain restrictions. One partner may be authorized to act on behalf
of the partnership.
Disadvantages. Each partner is
jointly and severally liable for all debts and obligations of the partnership.
Thus, the partners have unlimited liability and should the partnership’s funds
not suffice to cover the liabilities of the partnership, creditors can reach the
personal assets of the partners. Further, each partner may be bound by the acts
of each of his partners. The ability of a partner to sell or transfer his
interest in the partnership is often restricted.
Tax Considerations. A partnership
is not treated as a separate legal entity for U.S. income tax purposes and is,
therefore, not itself subject to tax, although it must file an information
return reflecting the receipts and expenditures of the business. Instead, the
partners are taxed directly on their proportionate share of the income earned by
the partnership (and are entitled to use their proportionate share of
partnership losses to offset other income) whether or not that income is
actually distributed to the partners. Special allocations of items of income and
expense to partners may not be given effect for tax purposes unless those
allocations comply with complex regulations which generally require that tax
consequences relate to actual economic consequences. Partnerships are generally
required to withhold U.S. tax from distributions to foreign partners.
General partnerships in Georgia. Georgia partnerships are governed by the Uniform Partnership Act of 1914.
According to the Act, all partners have an equal right to participate in the
business. In other words, each partner has an equal vote in the management of
business. Generally, a simple majority is all that is required, but certain
decisions, such as changes to the partnership agreement, admission of new
partners, the sale of the business, etc., require unanimity. All partners are
considered to be agents of the partnership and consequently each partner is
fully liable for his fellow partner’s actions. These default provisions of the
Act may be changed by entering into a partnership agreement.
2.3.3. Limited Partnership
General. A limited partnership has
two different kinds of partners, general and limited partners. The general
partners exercise and have unlimited joint and several liability for the
entity's debts and obligations. The limited partners, on the other hand, have no
personal liability for the debts and obligations of the business (except to the
extent of funds contributed by them to the business) and have virtually no
powers of management. Under the laws of many states, a limited partner looses
limited liability if he participates in the management of the partnership. In
contrast to this majority rule, in Georgia, a limited partner does not become
liable for the obligations of the limited partnership by participating in the
management or control of the business.
The creation and operation of
limited partnerships are governed by the various state limited partnership acts.
Creation of a limited partnership requires the filing of a certificate with the
appropriate state or county official, naming the general partners and disclosing
certain other information, and the payment of a nominal fee. Unless otherwise
agreed to in the partnership agreement, a loss of general partners dissolves the
partnership. Loss of limited partners has no effect on the partnership.
Georgia limited partnerships are
governed by the Revised Uniform Limited Partnership Act. It is required, that
limited partnerships be registered with the Secretary of State.
Advantages. A limited partnership
enjoys most of the advantages of a general partnership, with the additional
benefit that individuals who invest as limited partners are insulated from
personal liability for the obligations of the partnership. In some states, such
as Georgia, limited partners are permitted to participate in the management of
the partnership without loosing limited liability.
Disadvantages. A limited
partnership is subject to formal statutory requirements not placed on general
partnerships. In addition, the general partners retain unlimited liability for
the debts and obligations of the partnership. The ability of a general partner
to transfer his interest is usually restricted, while a limited partner's
interest is usually made transferable by provisions of the limited partnership
agreement. Furthermore, limited partnership interests are generally deemed to be
"securities," rendering the offer and sale of such interests subject to federal
and state securities laws.
Tax Considerations. Like a general
partnership, a limited partnership is not treated as a separate taxable entity.
For income tax purposes, the general partners of a limited partnership are
treated identically to the partners of a general partnership. However, unlike
general partners, the limited partners are subject to certain limitations on
their ability to utilize partnership losses to offset other income.
2.4 Corporations
In General. The corporation is the
most prevalent form of organization for businesses of any size in the U.S. A
corporation is a business, owned by shareholders and registered with the
Secretary of State. The formation and operation of a corporation are governed by
state statute. The process of incorporation is a more complicated process than
starting a partnership. Corporate existence commences with the filing of the
Articles of Incorporation, which contain the name of the corporation, a
description of the authorized capital stock and certain other identifying
information. The business and affairs of a corporation are controlled by its
board of directors, who are elected by the holders of the corporation's stock.
The board of directors selects the officers of the corporation, who oversee the
day-to-day operations of the business. Shares of common stock represent the
basic equity in the corporation, although there may be classes of stock with
widely varying preferences, limitations and relative rights.
Advantages. The primary advantage
of operating in corporate form is the insulation of the corporation's
shareholders from personal liability for the debts and obligations of the
corporation. The corporation has its own legal identity, separate from its
shareholders and it may acquire, own, and sell property, maintain legal actions,
and do everything a person can do. Generally, interests of shareholders can be
transferred with relative ease. Corporations typically have perpetual duration
and their existence is unaffected by the death or withdrawal of a shareholder.
Use of the corporate form may facilitate the raising of outside capital, subject
to compliance with securities laws. Furthermore, the use of the corporate form
may insulate non-U.S. business persons from taxation in their home country of
income earned in the U.S. (although that income would probably be taxed when
distributed to the businessperson in the form of a dividend) and may facilitate
meeting requirements for U.S. immigrant or nonimmigrant visas.
Disadvantages. Utilizing the
corporate form involves a considerable amount of formality and paperwork, even
in the smallest corporations. Minutes should be kept and annual reports and
separate franchise tax returns filed. A registered office and registered agent
must be maintained. The corporation may be required to qualify to transact
business if it desires to conduct business in a state other than its state of
incorporation. Shares of stock are "securities" and as such are subject to
federal and state regulation of their offer and sale. Public corporations must
comply with burdensome periodic reporting requirements and bear the
corresponding increase in record keeping, legal and accounting expenses.
Additionally, public corporations may be subject to attempts by third parties to
acquire control of the corporation against the will of management.
Tax Considerations. A corporation
is a separate taxpaying entity with its own tax rates. Taxes are to be paid on
federal and state levels. Federal corporate income tax rates presently range
from 15% to 35%. There is an element of double taxation in the corporate form if
the corporation pays dividends on its stock. Income to the corporation is taxed
at the corporate level and, if dividends are paid to shareholders, such
dividends are taxed again as income to the individual shareholders. Dividends
paid to foreign shareholders are generally subject to U.S. tax withholding,
although the rate of withholding may be reduced from the usual 30 percent level
pursuant to the terms of an applicable tax treaty. In many small corporations,
double taxation can be avoided by electing "S corporation" (see below) status,
which essentially eliminates the entity-level tax and taxes corporate income at
individual rates at the shareholder level, similar to the taxation of a
partnership.
“S corporations”. “S corporations”
combine traits of general partnerships and corporations. The advantage of “S
corporations” is that profits are only taxed once when dividends are distributed
to the shareholders. Because of the requirement that all shareholders be U.S.
citizens or permanent residents to qualify for “S corporation” status, “S
corporations” are not viable entities for foreign investors.
2.5. Limited Liability Company
In General. Another structure for
the conduct of business operations in the U.S. is the limited liability company.
The limited liability company (LLC) is a form of unincorporated business
organization that essentially is a hybrid between a corporation and a
partnership. LLCs are very flexible and can be set up to allow entrepreneurs to
emulate the governance characteristics of a corporation.
The relationships between the
members of a LLC are governed by the operating agreement. The creation and
operation of LLCs are governed by each state’s statute which specifically
provides for LLCs. While Georgia state law provides some default provisions,
custom provisions in the operating agreement can replace them. The LLC is
confined to businesses whose interests are not publicly traded. The uses of a
LLC range from small start-up businesses to public corporations that otherwise
would form a subsidiary to enter into a joint venture to carry out a
particularly risky project. Further, the members of the LLC can be other
businesses. If not otherwise agreed to, loss of a member dissolves the LLC.
Advantages. The benefits of an LLC
stem from its hybrid status. All of its members have limited liability, as in a
corporation. Thus, its members enjoy limited liability and the debtors of the
LLC cannot reach the member’s personal assets to satisfy the company’s debts.
The LLC is treated as a pass-through entity for tax purposes, like a
partnership. Unlike a limited partnership, members can and frequently do
participate in the management. Also, LLCs are not bound by requirements for
management by a board of directors. Another benefit of the LLC structure is that
the numerous restrictions on “S-corporations” are not applicable to LLCs. As a
result, corporations and non-resident aliens may be members of LLCs without
jeopardizing the availability of favorable tax treatment.
Disadvantages. Although numerous
states have adopted legislation creating LLCs, not all 50 states have done so.
To date, 47 states and the District of Columbia have enacted LLC legislation.
The LLC is still a young business concept; the first LLC statute was enacted
1977 in the State of Wyoming, Georgia followed suit in 1992. Therefore, the law
continues to develop. As LLCs become more prevalent, the legal environment will
become more certain.
Tax Considerations. For U.S. tax
purposes, members of the LLC are treated like partners; profits and losses are
carried on their individual income tax returns. Therefore, members of an LLC
avoid the double taxation of income necessary in corporations. However, certain
tax jurisdictions may elect to treat LLCs as a corporate entity and deny
pass-through tax treatment to the LLC members.
2.6 Limited Liability Partnerships
The LLP is a popular business
structure for professional firms, but is largely irrelevant for foreign
investors in the United States.
The LLP is defined by general
partnership law and LLP statutes. Unlike a limited partnership, all members of
the LLP enjoy limited liability. Typically, LLP members retain liability for
contract-debts but enjoy limited liability with respect to tort-debts of the
business. The formalities and prerequisites for forming a limited liability
partnership are far greater than the formalities in forming a limited or general
partnership. Like a general partnership, a LLP is not treated as a separate
taxable entity.
2.7 Branch of a Foreign Corporation
Many foreign corporations choose
to do business in the United States simply through a branch office.
Advantages. By operating as a
branch office of a non-U.S. corporation, many of the organizational burdens
associated with the other forms are avoided.
Disadvantages. Operation as a
branch subjects the foreign parent company to liability for the debts of its
branch.
Tax Considerations. A foreign
corporation with a U.S. branch generally is taxed in the same manner as a U.S.
corporation on income derived from the branch's U.S. operations. However, under
the normal rules of taxation applicable to U.S. corporations, a U.S. branch of a
foreign corporation would have a tax advantage over a foreign owned U.S.
corporation conducting the same business operations. That advantage results
because the earnings of the U.S. corporation would be subject to taxation in the
U.S. at the standard corporate rate and would be further subject to taxation
again when distributed to the foreign shareholder as a dividend. Although the
U.S. earnings of the U.S. branch of a foreign corporation would also be subject
to U.S. taxation at the applicable corporate rate, internal distributions of the
after tax profits would not constitute dividends subject to the second layer of
tax. To eliminate that disadvantage for foreign-owned U.S. corporations, the
U.S. has imposed a branch profits tax under which amounts deemed to be the
equivalent of dividend distributions by the branch to its home office are
subject to U.S. tax at the 30 percent rate generally applicable to dividends.
Like the withholding tax imposed on dividends, the branch profits tax is subject
to reduction or elimination pursuant to the terms of applicable tax treaties.
This document is for reference
purposes only and it is not intended to replace legal advice.
Source:
Firm Brochure, Legal
Considerations for the Foreign Investor in the United States, Smith, Gambrell &
Russell, LLP, Atlanta, Georgia, Frankfurt, Germany & Washington, D.C.
For questions contact Stefan-M.
Tiessen, Partner, Phone +49 611 1822-345, E-mail:
stiessen@sgrlaw.com
December 2006
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