A Guide To STARTING A BUSINESS IN MINNESOTA
SMALL BUSINESS ASSISTANCE OFFICE MINNESOTA DEPARTMENT OF EMPLOYMENT AND ECONOMIC DEVELOPMENT
A Guide To STARTING A BUSINESS IN MINNESOTA is updated annually. Copies are available without charge from the Minnesota Department of Employment and Economic Development (DEED), Small Business Assistance Office , 180 E 5th Street, Suite 1200, St. Paul, MN 55101-1678.
The Guide is available to view or download at Small Business Assistance Office website.
Website: Small Business Assistance Office Telephone: 651-556-8425 | 800-310-8323 Email: deed.mnsbao@state.mn.us
Upon request, this publication can be made available in alternative formats by contacting 651-259-7476.
The Minnesota Department of Employment and Economic Development is an equal opportunity employer and service provider.
A Guide To STARTING A BUSINESS IN MINNESOTA
Forty-second Edition, January 2024 Charles A. Schaffer Madeline Harris Mark Simmer
Copyright © 2024 Minnesota Department of Employment and Economic Development (DEED) ISBN 978-1-888404-94-4
PREFACE This forty-second edition of A Guide to Starting a Business in Minnesota, like its predecessors, is intended to provide a concise, summary discussion of the major issues faced by those starting a business in Minnesota. This edition of the Guide contains three major sections: the narrative text; a Resource Directory, which provides addresses, telephone numbers, and website addresses of organizations referenced in the text; and the Directory of Licenses and Permits, which lists all business licenses and permits required by the State of Minnesota, the state agency which issues or administers the license or permit, and contact information. Topics presented in the narrative text are presented in the order in which the new business owner typically must address them. Note that a business that will have operations or a physical presence (with the possible inclusion of an Internet presence) in another state should check with the government authorities in that state to obtain information on licensing, tax and other issues. We hope this organization is useful. While no one publication can answer every question for every kind of proposed business, this Guide does respond to the questions and concerns most frequently raised. While it tries to be both timely and comprehensive, this Guide is not intended as a final statement on any one subject. In particular, users should be aware that the formal legal requirements for business start-up and operations may change from time to time. Specific updates and additional information may be obtained from the many sources listed. Before engaging in any business venture, it is advisable to seek both legal counsel and advice from an accountant. Both professionals can advise you as to the best course you might take in establishing your business. The information provided in this Guide is not intended to replace that kind of advice and assistance.
Charles A. Schaffer Madeline Harris Mark Simmer
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TABLE OF CONTENTS
Preface ........................................................................................................................................... i Choosing the Form of Business Organization .................................................................................. 1 Tax and Non-Tax Considerations ............................................................................................ .1 Naming the Business Entity ............................................................................................... ...32 Forming a Sole Proprietorship ............................................................................................. 39 Forming a Partnership . ........................................................................................................ 39 Forming a Minnesota Business Corporation ........................................................................44 Forming a Minnesota Limited Liability Company . ................................................................ 51 Special Types of Business Organizations .............................................................................. .56 Filing Documents with the Office of the Minnesota Secretary of State .......................................62 Office of the Minnesota Secretary of State Fee Schedule for Business Entity Filings ...........64 Regulatory Considerations ............................................................................................................ 69 Securities Registration . ........................................................................................................ 69 Franchise Registration . ......................................................................................................... 77 Evaluating a Business Opportunity . ..................................................................................... 79 Business Licenses and Permits .............................................................................................. 81 Environmental Protection Programs.....................................................................................84 Intellectual Property Protection .................................................................................................... 89 Business Plan . ............................................................................................................................... 90 Accounting for the New Business . ............................................................................................... 94 Basic Accounting Principles . ................................................................................................ 94 Income Forecasting Techniques ............................................................................................ 96 Business Grants...........................................................................................................................100 Business Loans ........................................................................................................................... 101 Public Sources of Financing – Federal Programs .................................................................103 Public Sources of Financing / Tax Credits – State Programs .............................................. .108 Public Sources of Financing – Local Programs . ..................................................................122 Private Sources of Funds ..................................................................................................... 123 Insurance ....................................................................................................................................124 Issues for Employers ..................................................................................................................127 Who is an Employee? . ........................................................................................................ 127 Employment Agreements...................................................................................................132 Labor Standards .................................................................................................................. 134 Rest Breaks and Leave Time . .............................................................................................. 154 Employee Testing and Background Checks ......................................................................... 160 Employment of Minors.......................................................................................................164
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Protection of Employees Who Report Violations of Law ................................................... .168 Human Rights.....................................................................................................................169 Immigration Law Compliance . ........................................................................................... 177 Occupational Safety and Health . ....................................................................................... 179 Workers’ Compensation Insurance ..................................................................................... 185 Employee Benefits ............................................................................................................. 192 Plant Closings ...................................................................................................................... 194 Poster Requirements . ........................................................................................................ 195 Checklist for Hiring an Employee........................................................................................198 Business Taxes ............................................................................................................................. 210 Tax Identification Numbers ................................................................................................ .211 Business Income Tax Returns ............................................................................................. 215 Sales and Use Tax ............................................................................................................... 224 FICA Tax .............................................................................................................................. 230 Income Tax Withholding .................................................................................................... 231 Successor Liability for Certain Taxes When a Business or its Assets are Transferred .........238 Revocation or Prevention of License Issuance or Renewal ................................................239 Unemployment Insurance Taxes ......................................................................................... 239 Federal Tax Requirements ................................................................................................... 247 State of Minnesota Tax Requirements ................................................................................ 248 Sources of Information and Assistance ....................................................................................... 250 State Programs . .................................................................................................................. 250 Small Business Assistance Office ................................................................................ 250 Small Business Development Centers........................................................................251 Minnesota Trade Office .............................................................................................252 Minnesota Business First Stop....................................................................................254 Launch Minnesota.......................................................................................................254 Vocational Rehabilitation Service ..............................................................................254 Employment and Training Programs ..........................................................................255 Minnesota Job Skills Partnership ...............................................................................256 Dislocated Worker Program .......................................................................................257 Minnesota Federal Bonding Service ...........................................................................257 University of Minnesota Extension ............................................................................258 Government Procurement Assistance ..............................................................................258 .Federal Procurement .................................................................................................258 State Procurement ....................................................................................................262 Local Procurement.....................................................................................................265 Accounting and Tax Assistance ..........................................................................................265 Public Accountants ....................................................................................................265 Enrolled Agents .........................................................................................................267 Taxpayer Education Workshops .................................................................................268 Libraries........................................................................................................................... ...268 Additional Sources of Assistance ....................................................................................... 272 Specialized Legal Research and Assistance .................................................................272 Management Assistance for Minority Businesses......................................................272 Incubators ................................................................................................................... 272 Inventors Resources...................................................................................................273 Minnesota State.........................................................................................................273
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Regional Development Commissions ........................................................................273 Export / Import Assistance ......................................................................................... 273 SCORE ........................................................................................................................274 Women’s Business Center .......................................................................................... 274 Business Certification.................................................................................................275 Business Succession and Exit Planning......................................................................275 Resource Directory .....................................................................................................................279 Cooperatives ....................................................................................................................... 281 Environmental. ................................................................................................................... 281 Export/Import Assistance ................................................................................................... 281 Financing, Federal Sources . ................................................................................................ 282 Financing / Tax Credits, State Sources . ............................................................................... 284 Financing, Local Sources ..................................................................................................... 286 Financing, Private Sources ................................................................................................. 289 Government, Federal .......................................................................................................... 290 Government, State . ............................................................................................................ 294 Government, Regional ........................................................................................................ 305 Insurance............................................................................................................................ 306 Inventors ............................................................................................................................307 Job Service and Job Training ............................................................................................... 307 Legal Assistance .................................................................................................................. 310 Libraries..............................................................................................................................310 Local Assistance for Small Businesses ................................................................................. 314 Management Assistance / Mentors .................................................................................... 316 Management / Development Assistance for Minority Owned Businesses .........................319 Procurement / Purchasing / Certification / Other Assistance .............................................321 Tax and Accounting Assistance ........................................................................................... 324 Additional Resources .........................................................................................................324 ADA Information ........................................................................................................324 County Licensing Agents ............................................................................................324 City Licensing Agents .................................................................................................325 Co-Working / Creative / Incubator Spaces ................................................................326 Nonprofit Information ...............................................................................................327 Other .........................................................................................................................328 Directory of Licenses and Permits ..............................................................................................333
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CHOOSING THE FORM OF BUSINESS ORGANIZATION
TAX AND NON-TAX CONSIDERATIONS
INTRODUCTION One of the fundamental initial decisions a new business owner faces is choosing the form of organization for the business. Generally speaking, a person should consider himself or herself to be “in business” once they have begun the operation of an activity for which they expect to be paid. This is true whether or not that person terminates other employment (such as a job that brings a paycheck), or intends to operate that business on a seasonal or short-term basis. For most businesses, the choices are: Sole Proprietorship. In a sole proprietorship , the business is owned and controlled by one individual. This person alone receives the profits and bears the losses from the business, and this person alone is responsible for the debts and obligations of the business. Income and expenses of the business are reported on the proprietor’s individual income tax return, and profits are taxed at the proprietor’s individual income tax rate. If a husband and wife wish to own a business together, they must either form a partnership, corporation or Limited Liability Company (in order to have each of them be an owner of the business) or a sole proprietorship (in which case only one of them will be an owner of the business). Partnership. A general partnership is a business owned by two or more persons who associate to carry on the business as a partnership. Partnerships have specific attributes, which are defined by statute. All partners in a general partnership share equally in the right, and responsibility, to manage the business, and each partner is responsible for all the debts and obligations of the business. Distribution of profits and losses, allocation of management responsibilities, and other issues affecting the partnership usually are defined in a written partnership agreement. Income and expenses of the partnership are reported on federal and state “information” tax returns, which are filed by the partnership. These include Schedules K-1 which are used to report to the partner’s respective shares of partnership taxable income. The partners then report this income on their separate tax returns along with their other income and pay tax at their applicable income tax rates. A married couple who jointly operate an unincorporated business and who file a joint federal income tax return can elect not to be treated as a partnership for federal tax purposes provided that the husband and wife are the only members of the joint venture and materially participate in the running of the business. For more information refer to the Business Income Tax Returns section of this Guide.
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A limited partnership is a type of partnership in which the limited partners share in the partnership’s liability only up to the amount of their investment in the limited partnership. By statute, the limited partnership must have at least one general partner and one limited partner. The general partner has the right and responsibility to control the limited partnership, and is responsible for the debts and obligations of the limited partnership. In Minnesota, a limited partner may participate in the management and control of the limited partnership without losing limited liability protection but does not have the power to act for or bind the limited partnership (unless this is provided for in a separate agreement). Limited partnerships must be established in compliance with statutory requirements, including requirements of tax and securities laws. Because of their complex nature, limited partnerships should not be undertaken without competent professional advice. Limited Liability Partnership and Limited Liability Limited Partnership. A general partnership may register as a limited liability partnership (LLP) by filing a limited liability partnership registration. In limited liability partnerships, the personal assets of the partners are shielded against liabilities incurred by the partnership in tort or contract situations. This is different from a non-LLP general partnership, in which partners may be personally liable to an unlimited extent for the debts and obligations of the partnership. It should be noted that limited liability partnerships are a relatively new type of entity and certain aspects, such as tax aspects, of such entities are not yet fully developed or understood. Limited liability partnership status affords protection to the individual partner from liability for partnership obligations in tort and contract. An LLP files with the Secretary of State an annual report. There is a one-year grace period for retroactive reinstatement after revocation of LLP status for failure to file the annual report. Limited liability partnerships must have a name that includes one of the following: “Registered Limited Liability Partnership,” “Limited Liability Partnership,” “R.L.L.P.,” “L.L.P.,” “RLLP,” or “LLP. This should be used by the partnership in transactions with third parties so that they are aware of the partnership’s status. Minnesota law also allows a limited partnership to elect limited liability status under Minn. Stat. Chapter 321 by so designating this status in its certificate of limited partnership. This extends limited liability protection to both general and limited partners. This type of limited partnership is called a limited liability limited partnership. Limited liability limited partnerships are discussed below. Care should be taken in naming a limited liability limited partnership; the name must contain the phrase “limited liability limited partnership” or the abbreviation “LLLP” or “L.L.L.P.”, which must be part of the name, and must not otherwise contain the abbreviation “L.P.” or “LP.” Corporation. A corporation is a separate legal entity. It is owned by one or more shareholders. The corporation must be established in compliance with the statutory requirements of the state of incorporation. The shareholders elect a board of directors which has responsibility for management and control of the corporation. Because the corporation is a separate legal entity, the corporation is responsible for the debts and obligations of the business. In most cases, shareholders are insulated from claims against the corporation.
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It is worth noting here that because a corporation is an entity separate from its owners, if the owner (and/or members of the owner’s family) performs services for the corporation, these persons are considered to be employees of the corporation. Thus, the corporation will be required to comply with most of the laws and regulations and reporting requirements applicable to employers. The corporation may be taxed under Subchapter C of the Internal Revenue Code (a “C corporation”) or the provisions of Subchapter S of the Code (an “S corporation”). Minnesota tax laws provide for comparable treatment. A C corporation reports its income and expenses on a corporation income tax return and is taxed on its profits at corporate income tax rates. The Minnesota corporate franchise tax, sometimes called an income tax, is based on the portion of a C corporation’s income that is allocated to Minnesota. Profits are taxed without regard to payment of dividends, which generally are not deductible. Dividends paid to shareholders are taxable income to them. This is sometimes referred to as “double taxation” because this effectively taxes operating income twice, once to the corporation and then again when distributed to the owners, although it actually is two separate taxpayers being taxed on their separate income. An S corporation election may be made by the shareholders of the corporation if the corporation meets the statutory requirements for S corporation status. An S corporation that has not previously been taxed as a C corporation is taxed in much the same manner as a partnership, i.e., the S corporation files an information return to report its income and expenses, but it generally is not separately taxed. Income and expenses of the S corporation “pass through” to the shareholders in proportion to their shareholdings, and then are taxed to them at their individual rates. Under the Internal Revenue Code, an S corporation may have only one class of stock (i.e., “common” stock, although voting differences are permitted), no more than 100 shareholders, and no shareholders that are nonresident aliens or non-individuals (e.g., corporations, partnerships, Limited Liability Companies) except for certain estates, trusts, and certain tax exempt entities. The federal 2004 American Jobs Creation act allows an S corporation to treat shareholders within six generations of one family as one shareholder thus allowing family business S corporations to distribute shares to family members of existing shareholders without those new shareholders being counted as new shareholders against the 100 shareholder limit. S corporations are described in more detail in later sections of this Guide. (If the shareholders of an existing C corporation elect to have it taxed as an S corporation additional rules as well as corporate level taxes may come into play. Any such change in tax status should be discussed in advance with a competent tax advisor.) A closely held corporation is any corporation whose shares are held by a relatively small number of shareholders. The Minnesota Business Corporation Act defines a closely held corporation as one which does not have more than 35 shareholders. Most closely held corporations are relatively small business enterprises, in which all shareholders tend to be active in the management of the business. Some states provide a separate, less formal, less restrictive set of laws for closely-held corporations. Minnesota does not. In Minnesota, the business corporation law is geared to small corporations, so a separate law is not necessary, and all corporations operate under one law. Limited Liability Company. A Minnesota business also may organize as a Limited Liability Company. A Limited Liability Company may have one or more members. As described further in the section on tax considerations in choosing the form of organization, under Treasury Regulations regarding entity classification the members of Limited Liability Companies have some flexibility with respect to the federal income tax treatment of their entities. Under these rules a Limited Liability Company
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with more than one member will be taxed as a partnership unless it elects to be taxed as a corporation and a Limited Liability Company with only one member will be taxed as a sole proprietorship (a “disregarded entity”) unless it elects to be taxed as a corporation. The applicable Regulations appear in 26 C.F.R. § 301.7701-1, et. seq. A Limited Liability Company that is taxed as a partnership or as a corporation must obtain its own tax ID numbers. A Limited Liability Company with only one member that is taxed as a sole proprietorship generally does not need to obtain separate federal or state tax identification numbers unless it has employees or pays federal excise taxes, in which case it will obtain tax ID numbers and use them to remit employment taxes or pay excise taxes. Business income and losses of a Limited Liability Company that is taxed as a partnership or as a sole proprietorship are passed through to the members, included in their taxable income, and taxed at each member’s income tax rate. As with a corporation, liability for business debts and obligations generally rests with the entity rather than with the individual owners. A Limited Liability Company is not subject to many of the restrictions that apply to S corporations (unless it elects to be taxed as a corporation and wishes to be taxed as an S corporation). All members of a Limited Liability Company may participate in the active management of the company without risking loss of limited personal liability. Minnesota adopted a new Limited Liability Company Act (Minn. Stat. Chapter 322C) that became effective August 1, 2015. Minnesota Limited Liability Companies formed on or after that date are subject to the new act, and may be managed by the members, by a board of governors, or by a manager. Other Forms of Organization. Other forms of organization available to Minnesota businesses include professional organizations, cooperative associations, business trusts, and certain variations of these forms of organization. These types of organizations are established and regulated by statute and involve complex legal, financial and accounting issues. Organizing under any of these forms should not be attempted without competent professional advice. Because of their highly specialized nature, these forms of organization are not addressed in detail in this Guide. Changing the Form of Organization. Note that although the discussion in the above paragraphs is also applicable when changing the form of business organization, (e.g., when converting a sole proprietorship to a corporation), a business owner is strongly urged to seek professional assistance when doing so, because unintended consequences may result, often including significant tax consequences. For example, contracts entered into by the business may or may not be assignable to the new entity. Also, there may be tax costs to changing the form of organization, such as when an S corporation becomes a C corporation. Minnesota law also authorizes conversions in either direction between corporations and Limited Liability Companies (including with organizations from other states that permit conversion from or into a Minnesota entity). The converting organization must adopt a plan of conversion that must be approved governors in accordance with the entity’s governing statute. Upon approval, articles of conversion are drafted and filed with the Secretary of State who then will issue a certificate of conversion and a certificate of incorporation or certificate of organization if the resulting organization is a Minnesota corporation or Limited Liability Company. Again, these changes can produce significant tax consequences and should be undertaken only when these are fully understood. For example, a conversion of a corporation into a Limited Liability Company that is taxed as a partnership is treated for income tax purposes as a taxable liquidation of the corporation, which can produce taxable gain to both the corporation and its shareholders.
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NON-TAX FACTORS IN CHOOSING THE FORM OF ORGANIZATION
In choosing the most appropriate form of organization, the business owner will want to consider a variety of factors, including: complexity and expense of organizing the business; liability of the business owner; distribution of profits and losses; management control and decision making; financing startup and operation of the business; transferability of ownership interest; continuity of the business entity following withdrawal or death of an owner; complexity and expense of terminating or reorganizing the business; extent of governmental regulation, as well as tax considerations. These factors should be examined carefully in light of the objectives of the business owner. Competent legal, accounting and tax professionals can provide valuable advice and assistance in selecting the most appropriate form of organization. As with many business decisions, choosing a form of organization involves weighing the advantages and disadvantages of each alternative before selecting the form most appropriate to the business owner’s situation. No one form of organization will be appropriate to all situations, and as the business expands a change in the form of organization may be necessary. The discussion which follows examines the differences in each of the above factors for proprietorships, partnerships, corporations, and Limited Liability Companies. Complexity and Expense of Organizing the Business All businesses, regardless of their form, will encounter certain organizational costs. These costs can include developing a business plan, obtaining necessary licenses and permits, conducting market research studies, acquiring equipment, obtaining the advice of counsel, and other costs. Sole Proprietorship. The sole proprietorship is the simplest form of organization, and the least expensive to establish. There are no statutory requirements unique to this form of organization. From a regulatory standpoint, the business owner only needs to obtain the necessary business licenses and tax identification numbers, register the business name, and begin operations. Many individuals begin their business as a sole proprietorship. As the business expands or more owners are needed for financial or other reasons, a partnership or corporation may be formed. Partnership. A general partnership is more complex to organize than a sole proprietorship, but involves fewer formalities and legal restrictions than a limited partnership, corporation, or Limited Liability Company. Basic elements of partnership law are established by statute, but most issues can be determined by agreement of the partners. A written partnership agreement is highly recommended, but is not legally required. Factors to consider in a partnership agreement are listed in a later section of this Guide. The partnership agreement is not required to be filed with any governmental entity. Note that under the Revised Uniform Partnership Act (RUPA) of 1997, Minn. Stat. Chapter 323A, partnerships have the option of filing with the Secretary of State certain statements regarding the authority and liability of partners as well as the status of the partnership. A limited partnership must meet specific statutory requirements at the time of organization, and the offering of ownership interests in the limited partnership is subject to securities laws. Accordingly, the limited partnership often is more complex and expensive to organize than a general partnership.
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Limited Liability Partnership and Limited Liability Limited Partnership. An existing general partnership may elect limited liability partnership status by filing a limited liability partnership registration with the Secretary of State. Such registration is effective for an indefinite period of time. Limited liability limited partnerships are also permitted. Anyone interested in forming an LLP or an LLLP is advised to seek the advice of counsel. Note also under applicable statutes, limited liability status has an indefinite term, although the Secretary of State will revoke LLP or LLLP status if the required annual registration is not filed. Limited liability partnerships and limited liability limited partnerships generally follow the basic partnership or limited partnership law with specific exceptions as provided by law. Corporation. The corporation is a formal and complex form of organization, and accordingly can be expensive to organize. Procedures and criteria for forming the corporation and for its governance are established by statute. FAILURE TO FOLLOW THE STATUTORY FORMALITIES CAN RESULT IN LOSS OF CORPORATE STATUS AND IMPOSITION OF PERSONAL LIABILITY ON THE INCORPORATORS OR SHAREHOLDERS. The S corporation faces further complexity in that an election to be taxed as an S corporation for federal tax purposes must be filed with the Internal Revenue Service in a timely fashion. In addition, care must be taken in the transfer of shares not to inadvertently lose S corporation status. Because of the complexities involved in incorporating, corporations often will make greater use of professional advisors, which will increase costs. Other costs associated with incorporating include filing fees, which are greater for corporations, and the costs associated with tax compliance and preparing various government reports. If the corporation does business in other states, it generally will be required to register to do business in those states, thus further increasing the cost and complexity of incorporation. And, if the corporation will raise capital by selling securities, the compliance costs involved will be substantial. Minnesota has attempted to simplify the incorporation process by including in the Minnesota Business Corporation Act all of the rules pertaining to the internal governance of the corporation. A corporation that agrees to be governed as specified in the statute need only file standard form articles of incorporation with the Secretary of State. The corporation that wishes to vary the statutory requirements generally must do so in its articles of incorporation. Prior consultation with legal counsel can assist the incorporators in determining which approach is most appropriate for the corporation. Further information on incorporating appears in the section of this Guide titled “Forming a Minnesota Business Corporation”. Limited Liability Company. The Minnesota Revised Uniform Limited Liability Company Act takes a more partnership-like approach to these entities than did the prior Act. Nevertheless a Limited Liability Company often will combine aspects of both partnerships and corporations. In many cases where the governance and economic rights are simple and allocated among the members equally, one can expect formation to be similar to a corporation in complexity and cost to organize. As with a corporation, the procedures and criteria for forming a Limited Liability Company are specified by statute. FAILURE TO FOLLOW THE STATUTORY REQUIREMENTS CAN RESULT IN LOSS OF Limited Liability Company STATUS AND IMPOSITION OF PERSONAL LIABILITY ON THE ORGANIZERS AND MEMBERS OF THE COMPANY . There is very little case law to guide organizational and operational decisions, although Minnesota’s current Limited Liability Company law is modeled on the Revised Uniform Limited Liability Company Act, and the commentary to that may be helpful and can be found at Uniform Law Commission .
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In addition, the Minnesota Revised Uniform Limited Liability Company Act contains default rules that will apply in the absence of an agreement by the member (for example, each member has equal management rights and the right to an equal percentage of nonliquidating distributions made by the Limited Liability Company. Members of Limited Liability Companies need to be familiar with these rules. They often will want a formal written agreement where their intentions differ from the law’s default rules. For these and many other reasons, owners of a Limited Liability Company may need to consult often with their professional advisors, increasing their costs. Under the Treasury Regulations dealing with the federal income tax classification of business entities, the members of a Limited Liability Company have some flexibility in choosing the tax status of their entity. Professional advice in this area is strongly encouraged. As is the case for Minnesota corporations, members of a Limited Liability Company may agree to have the company governed by the default provisions of the governing statute – Minn. Stat. Chapter 322C. In that case, standard form articles of organization may be used to organize the company. The law, however, permits the members of these entities to vary many of the default provisions of Minn. Stat. Chapter 322C through agreements called “operating agreements”. While it is advisable in most instances to reduce an operating agreement to writing, that is not required. Like a partnership agreement, an operating agreement may be oral, in a record (e.g., in written or electronic format), implied by conduct, or in any combination thereof, as long as it is the agreement of all persons who are members when the agreement is entered into. Further information on forming a Limited Liability Company appears in the section of this Guide on Forming a Minnesota Limited Liability Company. Liability of the Business Owners Sole Proprietorship. The sole proprietor is personally liable for the debts of the business, even if those debts exceed the owner’s investment in the business. All of the owner’s assets – both those used in the business and personal property (subject to certain exemptions) – can be attached by creditors and sold to pay business debts. The sole proprietor may be able to minimize certain risks such as property loss, personal injury or product liability by obtaining adequate insurance. Partnership. In a non-LLP general partnership , each partner may be personally liable for up to the full amount of the debts of the business, even if the debts exceed the owners’ investment in the business. The partner with greater personal assets thus risks losing more than a partner with fewer personal assets. As with a sole proprietorship, many business risks can be lessened by obtaining adequate insurance. However, in a Minnesota limited liability partnership, partners are not personally liable for the wrongful acts or omissions in the ordinary course of business of other partners, for the misuse of money or property of a non-partner by another partner, or for the debts or obligations of the partnership, subject to certain exceptions. It is uncertain how this kind of partnership will be treated in other states, although most states have adopted some form of limited liability partnership legislation. In a limited partnership , so long as the statutory formalities are met and the limited partner is not relied upon by others as a general partner, the limited partner generally is not liable for the obligations of the limited partnership. Thus the limited partner risks loss only up to the amount
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of his or her investment. The general partner retains full liability as in any other partnership. In limited liability limited partnerships general partners will enjoy the same protections from liability enjoyed by limited partners or partners of an LLP. Corporation. The corporation is a separate legal entity, and in most cases is the entity that is liable for the debts of the business. The shareholders generally are exempt from personal liability for those debts and thus risk loss only up to the amount of their investment in the corporation. This is true for both C corporations and the S corporations. It should be noted, however, that in a small, closely held or newly created corporation without an established credit history, some or all of the shareholders may be expected to personally guarantee repayment of certain corporate debts as a condition of obtaining a loan or credit. Also, under certain circumstances such as fraud or personal wrongdoing, a court may “pierce” the liability shield and hold shareholders personally liable for wrongful acts. Finally, it is possible for courts to “disregard” the corporate entity and make shareholders liable under certain circumstances, especially where the corporation and the shareholders themselves have not respected the corporate entity by commingling corporate funds with those of other persons or having the corporation pay shareholder personal expenses out of corporate assets. Limited Liability Company. Liability of the owners of a Limited Liability Company generally is the same as for shareholders of a corporation; that is, absent fraud, personal wrongdoing or disregard of the entity, they generally are not held personally liable for the debts and obligations of the business. They therefore risk loss only up to the amount of their investment. As is the case for corporations, owners of small, closely held, or newly organized Limited Liability Companies may be required to give personal guarantees of repayment to secure financing or credit. No Liability Protection for Personal Act. It is important to note that no entity structure will insulate the owner from liability for his or her own personal acts. Personal Liability for Payment of Employment Taxes. To encourage prompt payment of withheld income and employment taxes, including Social Security taxes, railroad retirement taxes, or collected excise taxes, Congress passed a law that provides for the TFRP (Trust Fund Recovery Penalty). These taxes are called trust fund taxes because you actually hold the employee’s money in trust until you make a federal tax deposit in that amount. In the event that an employer fails to pay its employment taxes, its individual officers, members, directors, owners or others, who are responsible for collecting or paying withheld income and employment taxes and willfully fail to collect or pay them may be held personally liable for unpaid taxes. See the IRS information, Employment Taxes and the Trust Fund Recovery Penalty (TFRP) . Distribution of Profits and Losses Sole Proprietorship . The sole proprietor receives all the profits from the business, and bears all the losses, which may exceed the proprietor’s investment in the business. Partnership. In the general partnership, the limited liability partnership, the limited liability limited partnership and the limited partnership, profits and losses are passed through to the partners as specified in the partnership agreement. If left unspecified, profits and losses are shared equally among the partners.
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Corporation. In a C corporation, profits and losses belong to the corporation. Profits may be distributed to shareholders in the form of dividends, or they may be reinvested or retained (within limits) by the corporation. Losses by the corporation are not claimed by individual shareholders. Shareholders include dividends and the gain or loss on the sale of stock or liquidation of stock in the corporation as income. S corporation. In an S corporation, corporate income and losses flow through and are taxed to the shareholders in proportion to their shareholdings. Shareholders also include their gain or loss on the sale of stock or liquidation of stock as income. Generally cash distributions (dividends) received from the S corporation are not included in income to the extent the shareholder has basis in his or her stock. Limited Liability Company. Profits and losses of a Limited Liability Company flow are taxed in the same manner as those of a sole proprietorship, partnership, S corporation, or C corporation depending on how the entity has chosen to be treated for federal income tax purposes. The governing statute, articles of organization, or the operating agreement will specify how these are allocated among the members. Management Control and Decision Making Sole Proprietorship. The sole proprietor has full and complete authority to manage and control the business. There are no partners or shareholders to consult before making decisions. This form of organization gives the proprietor maximum freedom to run the business and respond quickly to day-to-day business needs. The disadvantage of this form is that the sole proprietor, as just one person, will have limited time, energy and expertise to devote to the business. His or her experiences may not provide the breadth of skills and knowledge necessary to deal with all phases of the business. Further, because the sole proprietor is the only person authorized to act on behalf of the business, he or she may be unable to leave the business for extended periods of time without jeopardizing its operations. As the business expands, the proprietor may be able to hire managers to perform some of these functions and provide additional expertise, but in the early years of the business, the sole proprietor often will perform many of these tasks alone. Partnership. The general rule of management is that in both a general partnership and a limited liability partnership , all partners share equally in the right, and responsibility, to manage and control the business. The partnership agreement may centralize some management decisions in a smaller group of partners, but all partners continue to share ultimate responsibility for these decisions. By statute, unless a partnership agreement provides otherwise, certain management decisions require unanimous consent of the partners. Other decisions may be made by consent of a majority of the partners. The right to share equally in decisions can make the decision-making process cumbersome, and the risk of major disagreements can impair effective operation of the business. An advantage of the partnership that is not present in a sole proprietorship is that the partnership, with its several owners, can bring a broader range of skills, abilities and resources to the business. The owners’ combined experiences also can promote more informed decision making. In addition, the workload can be shared to lessen the physical and other demands on the individual owners. In addition, under the Revised Uniform Partnership Act (RUPA), a system of formal filings has been established that allows partnerships to limit the authority of certain partners to third parties as well as to limit the liability of partners for partnership obligations purportedly incurred by a partner after the partner has left the firm. In order to use this system, the partnership must first
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