Steps to Form a Corporation: The ABCs of Forming a Corporation

A corporation is an entity that is separate and distinct from its owners; this means that the corporation itself, not its owners (called stockholders), is held legally liable for the actions of the corporation.

The process to form a new corporation begins with incorporating or filing for an LLC (“limited liability company”) through your state.

If you are forming an LLC, there may be additional steps necessary; make sure it includes what business structure you want to create before you file.

Below are step-by-step directions on how to start a corporation.

How to start a corporation

1. Choose a Business Name

Before starting a corporation, you must choose a name.

Your corporation’s name will be on all of its legal documents and correspondence, so it is important to choose an appropriate name that doesn’t violate any trademarks or copyrights.

Naming requirements:

  • The corporation’s name cannot be the same as another registered business in your state.
  • The corporation’s name cannot suggest that it is part of another company (for example, “ABC, Inc.” is acceptable; “XYZ Widgets, Inc.” is not). This would be considered misleading to customers.
  • The corporation’s name must end with either Limited or Corporation (i.e., ABC INC. or ABC LLC are not acceptable; ABC LIMITED PARTNERSHIP is acceptable).

You can reserve a business name for 120 days through your state website or you can reserve an assumed name at the county level for $10-$30 per year (most states will also let you convert this to a trading name once your corporation files its assumed name certificate).

Once you choose your business name, you can use the state’s website to find out whether or not it is available for registration.

2. Check Availability of Name

Your state will let you check the availability of your corporate name on its website.

You can also do a search at www.uspto.gov to see if the name is available federally, but it will cost $275.

3. Register a DBA Name

If your state does not allow you to register the names of its corporations, you should file as a “Doing Business As (DBA)” with your county.

Contact your county clerk for more information about how to do this.

4. Appoint Directors

After filing your Articles of Incorporation, you must appoint the initial directors for your corporation.

Most states require that two or more people be appointed; make sure you meet this requirement before filing.

Who can be a director:

  • Individuals (people) can serve as directors.
  • Сorporations and other businesses, called “business entities,” can also serve as directors for your corporation.
  • Partnerships cannot serve as directors.

Once you file Articles of Incorporation, you must appoint your initial board of directors within ten days (unless the document states that it is effective at a later date).

You should list the names and addresses of these individuals on an attachment to your articles; this is where you will place the name and address of each director.

Ensure every investor has appointed his or her own director and ensure no person serves as more than one director (for example, it would not be legal for JohnSmith to serve as the director for ABC, Inc., XYZ LLC, and 123, Inc.).

5. File Your Articles of Incorporation

Your articles are your corporation’s constitution. Most states require that you file them with the Secretary of State or another state office, depending on your state.

To find out where to file, visit your Secretary of State website.

How to File Your Articles:

1. First, go online and download a copy of your state’s Articles or Certificate of Incorporation form. You can generally find this by conducting an internet search for “Articles of Incorporation [your state].”

Ensure you follow all instructions carefully because some states print special requirements in their forms.

Use www.uspto.gov if you need more help finding information about your state’s corporate filing process or have questions about what needs to be included in your document.

2. If you need help filing, there are several services that can assist you:

  • Your company’s legal counsel (you may want to consider hiring a lawyer – especially if your corporation is more than one person – since it will be his or her job to ensure all of your forms are in order).
  • An online service (for example, http://corporation.legalzoom.com/ or http://www.startaba.com)
  • A CPA firm (for example, many small businesses work with community accounting firms for their bookkeeping and tax preparation needs; they might also be able to file your articles).

3. Next, take your completed form to whatever location is required by your state(most often this is your Secretary of State or another state office). You will need to pay a filing fee, which varies by state.

4. Ensure you check with your Secretary of State for any particular requirements that have to be met before your articles are filed (for example, some states require corporations to list the names and addresses of each director).

6. Write Your Corporate Bylaws

Bylaws are your company’s internal rules. They govern how the corporation will function and run on a day-to-day basis.

How will shareholders vote? What happens if a board member becomes incapacitated? These questions and others like them are all covered in corporate bylaws.

Your Bylaws:

  • Must be written (they cannot be oral or implied).
  • Should include information about the following:

a) A description of stock (how many shares, when they can be sold, etc.). For example, if you sell 10,000 shares of stock at $5 per share, your corporation can raise $50,000 with which to start up;

b) If your corporation is allowed more than one class of stock, the articles will need to state what rights are associated with each class;

c) The types of business your company can engage in (some states require for-profit corporations to be very specific when it comes to describing their business activities).

  • Generally include either a section called “Amendments” or an “Adoption” clause that explains how future changes will be made to your bylaws.
  • Can never conflict with laws or regulations. If they do, they are considered invalid and may not be enforced by law. You should allow at least 60 days between the time you file your articles and the date you adopt your bylaws so that any conflicts can be caught before you act on them.

7. Draft a Shareholders’ Agreement

If you are the only owner of your corporation, or if all owners are in complete agreement about its policies and procedures, then you may not need a shareholders’ agreement.

However, if you have any shareholders who don’t always see eye to eye, they should consider drafting their own Shareholders’ Agreement. This document outlines how much stock each shareholder owns and what each has agreed to regard company profits, investments, etc.

If an argument arises about how the business is being run or decisions made that violate previously stated terms, the shareholders can refer back to this document for clarification.

8. Hold Initial Board of Directors Meeting

Your board’s first official act is to appoint corporate officers. This is usually the president, treasurer, and secretary (you may want your lawyer or an outside party to help with this step).

When you own all of the stock in your corporation, there are no elections for board members; however, if you have outside investors or need to keep track of who owns how many shares, then it might be a good idea to conduct an election at your first meeting.

9. Issue Stock

Issue stock to yourself, your partners, or employees. This means transferring shares from the company’s treasury into your name (if you are issuing stock to a partner, you may want to have that person be responsible for buying it by having them sign an agreement).

There is no limit on how many shares of stock a corporation can hold in its own treasury.

10. Obtain Business Permits and Licenses

You may need to apply for new licenses and permits if the business you are starting requires them.

Before beginning any project, you should research your state’s laws on these matters – your city clerk’s office can be a good place to start.

11. Register With the IRS and State and Local Tax Agencies

The IRS requires businesses to obtain a Federal Employer Identification Number (EIN) before applying for business licenses.

Your state and local tax agencies will use this number as a way of identifying your corporation within their systems. Many states also require all corporations to apply for a new tax ID, even those that aren’t required by the IRS.

In addition to obtaining licensing from federal, state, and local tax agencies, you should research any other taxes your business may need to pay – for example, there may be a special excise tax levied on companies in certain industries.

12. Open a Bank Account

When you open a bank account for your company, you must supply personal identification information about yourself or another authorized individual(s).

In addition, if you plan to outsource payroll services in the future, your bank will want direct deposit information about your employees.

Benefits of corporations

The benefits of forming a corporation include protection from personal liability and lower tax rates.

  1. Official organizations of people who have been granted a charter by the state for a particular purpose
  2. A corporation’s life begins when it files articles of incorporation with the Secretary of State or other designated agency in the state where it is incorporated
  3. You usually do not have to pay taxes on business profits until you actually distribute dividends to shareholders, so any money kept as retained earnings is exempt from taxation as long as they remain invested in your company
  4. Business owners may only be taxed once for corporate income instead of twice (once at the corporate level and again at the shareholder level)
  5. By contrast, those without corporations are taxed on their gross income whether they receive a paycheck or not
  6. Corporations are legally considered people, so they can apply for patents and trademarks just as individuals can
  7. If the corporation ceases operation, it is no longer subject to taxes nor does it have to pay its final estimated tax installment (this means that any retained earnings or delayed tax liabilities may be lost).

Downsides

The downsides of forming a corporation include the cost of doing so and the red tape involved.

  1. The cost of forming a corporation is more than simply filing paperwork with your state – you will also need to pay lawyers, accountants, or other professionals for legal advice
  2. A corporation requires more paperwork than an LLC because it must file four separate tax returns instead of one. These are the income tax return, the employment tax return (for withholding taxes), the information return (annual 1099s), and a K-1 form that calculates individual shareholder’s shares of company profits
  3. Corporations are governed by both federal AND state laws – this means that if there is any conflict between these sets of legislation, federal law will trump any state law(this means that if the corporation is headquartered in one state but doing business in another, federal laws apply)
  4. If a shareholder files a lawsuit against the corporation, he/she cannot be sued for any amount greater than their initial investment in the company. If they were to make a profit from suing the corporation, this would be considered income and subject to taxes.

How much does it cost to set up a corporation?

It costs $100 to form a corporation in most states, but is typically much higher when you add in the lawyers’ fees and other associated costs:

  • The state of Washington charges a flat fee of $250
  • California, New York, and Illinois charge a flat rate based on the number of authorized shares: California ($78), NY ($125), and IL($105)
  • The remaining 42 states have a tiered system where the corporation pays more as it issues more stock or adds more employees to its payroll. Some states have an initial filing fee followed by an annual tax on the company’s net worth.

The maximum rates are as follows: Michigan(0.20%), Alaska(0.15%) and Texas($75).

In addition, corporations that issue equity must pay federal taxes on the gain from those securities on their annual income tax returns.

Types of corporations

S-Corporations:

A domestic corporation with no more than 100 shareholders and only one class of stock allowed.

The corporation’s profits and losses must be distributed to the shareholders on their individual tax returns, which means that there is no double taxation as occurs with C-Corporations.

C-Corporation:

A domestic corporation that may incorporate in any state, but that must pay taxes twice – once on corporate income and then again on shareholder dividends (double taxation).

As such, many corporations choose to incorporate only for the benefits of limited liability and not for tax purposes

What is a Registered Agent?

A registered agent is a person or company designated to receive all legal documents, tax forms, and other mail on behalf of the corporation.

The registered agent has one job only – to monitor the business’s paperwork so that it can be forwarded to its owners.

How should I choose a Registered Agent?

You must appoint a registered agent when you incorporate your business.

Your state will provide you with a list of companies that offer these services, but you are free to choose anyone that does not charge an outlandish amount of money.

If possible, try to find someone who lives close by because they are required by law to accept legal documents in person. This means if your business ever gets sued, the plaintiff will know where to find them

What is a Registered Office Address?

A registered office address is the company’s official mailing address. It should be separate from the location of any business activities that are conducted by the corporation.

This means that if you operate your business out of your home, then your private residence cannot be designated as the registered office address for your company.

If you do not have an additional “brick and mortar” location for your business to conduct its affairs, then you may use a P.O. Box as this registered office.

Who are the members of a corporation?

1. Shareholders:

A corporation’s owners and typically may be of any nationality and located anywhere in the world

2. Corporate Officers:

The officers are responsible for running the day-to-day affairs of a company, including hiring workers, marketing products, arranging deals with suppliers/customers, etc.

How long does it take to become a corporation?

It takes an average of about 2 weeks to incorporate, but it can take up to 6 weeks if the corporation is involved in a lawsuit at the time of its filing.

Get Insurance

The insurance coverage you choose should be tailored to your business’s needs, but regardless of what type of corporation you are planning on forming-you need to make sure that your business is covered by an insurance company.

If not, then the officers and directors (if any) will be responsible for compensating its employees, suppliers/customers, etc. if anything happens to them during the performance of their duties.

Types of Insurance

1) Property/Casualty:

This covers damage to the corporation’s property and its owners. For example, if your business gets hit by a falling tree limb that damages your personal car, then this insurance will pay for it

2) Director& Officer (D&O):

This will cover any legal fees or payments you need to compensate individuals who are suing the corporation

3) Workers Compensation:

If one of your employees is injured on the job, then he can sue you for his medical expenses.

However, workers compensation insurance pays these expenses so that you do not need to worry about getting sued

4) Employee Benefits:

These plans help attract and maintain quality employees by offering them benefits such as healthcare coverage and life insurance policies.

You may not be able to offer these benefits if you have a limited amount of money for this purpose, so it is best that you go with a larger corporation that does have the necessary funds available.

How Are Corporations Taxed?

Corporations are taxed based on their level of income, so the tax rate for small businesses will be lower than it is for larger corporations.

Many corporations pay their taxes by filing Form 1120 every year.

Sales Taxes

Corporations do not have to pay sales tax. However, if a corporation purchases goods from another company, then the receiving corporation is required to collect and remit this tax.

Income Taxes

The Internal Revenue Service (IRS) requires that all corporations deduct any losses from their annual income before they submit their taxes.

This makes sense because it would be unfair for one company to make over $250,000 per year and have to compete with a company that only made half as much money but did not have these losses to deduct.

Property Taxes

Corporations must pay property tax on all of the personal assets they own. Owners can calculate their property taxes by multiplying the assessed value of their assets by the local rate per $100.

For example, if a corporation owns 1 million in real estate/vehicles, and its local rate is $0.40/$100, then it will owe $400 for this year’s property taxes.

Franchise Taxes

This is a fee that every corporation has to pay to the state of incorporation.

It is based on the value of all of its assets and shareholders’ equity, so this cost typically ranges from $125-$550 per year.

For example, if a business has total assets worth $5 million and total shareholder’s equity worth $3 million, then it will have to pay franchise tax in the amount of $150 [($5 mil x .02) + ($3 mil x .015)].

Self-Employment

Corporation’s owners will still be required to pay self-employment tax, but they can deduct a part of their expenses from their taxable income if the corporation did not compensate them for these costs.

Why Would a Corporation Need to File an Annual Report?

If your corporation is publicly traded, then you have to file an annual report with the Securities and Exchange Commission (SEC).

This information must include details about its financial condition as well as any changes that may have taken place within the company since last year’s report.

Also, if you wish to dissolve or merge with another corporation, you need to file this report first. The SEC does not charge anything for this filing; it is completely free!

But if your business does not have any plans to merge or dissolve, then you may also file an annual report at your state’s business registration office. This must be filed regardless of the corporation conducts any business activities or not.

Conclusion

The key to success as a small business owner is usually getting into the smaller details of every financial situation. So it is important to know all of your options and which path will be best for your individual company.

Corporations are a major source of income for many people over the world, but setting one up can be difficult if you don’t know how to do it.

Thankfully, the process isn’t too difficult, but you do have to make sure that everything is done correctly or your business may not be able to run for very long.

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