The goal with this blog is to give current and potential colleagues and clients some insights into the firm. My hope is it provides relevant information to those who may be interested to learn more about us.
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Taxes and the Sharing Economy
A new smart phone app or start-up company appears every few weeks claiming to provide a novel way to capitalize on renting what you already own. These types of services collectively are often referred to as the “sharing economy” or “access economy.” Popular examples of these tools relevant to the South Florida real estate industry are Airbnb and Homeaway. Besides the larger services most of us are familiar with, there are many more less-known companies that are also active in the sharing economy. For instance, commuters can now make money by placing advertisements on their cars; and those with extra space in their garages are now able to monetize that square footage.
This growing sharing economy raises interesting challenges when it comes to taxation. The Internal Revenue Service is just catching up to these technological advancements. It launched a new web page last month designed to help taxpayers involved in the sharing economy quickly locate the resources they need to help them meet their tax obligations.
Shared Economy Providers
Participating in the sharing economy has tax implications. If you are receiving income from a sharing economy activity, it’s generally taxable. This is true regardless of whether you receive an income statement, Form 1099-MISC or other Tax Statement. This applies irrespective of whether it is a side job or you’re paid in cash. With this in mind, some or all of your business expenses may be deductible, subject to the normal tax limitations and rules.
If you are engaged in the sharing economy as an individual, you may be treated as a self-employed worker for federal tax purposes. Self-employed individuals, also known as independent contractors, are required to pay self-employment tax. Self-employment taxes consist of Social Security and Medicare taxes (anytime self-employment tax is mentioned, it only refers to Social Security and Medicare taxes and does not include any other taxes that self-employed individuals may be required to file).
The wear and tear and deterioration of property with a life longer than a year may be depreciated. Depreciation is an income tax deduction that lets you, over time, recover the cost or other basis of certain property you own. Machinery, vehicles, furniture, equipment, and buildings may be considered depreciable property. You cannot claim depreciation on property held for personal purposes. If you are using property for business or investment and personal purposes, you can depreciate only the business or investment use of that portion, subject to an elaborate set of anti-abuse rules the government strictly enforces.
Rental Property 15 Day Rule
A special rule applies if a property is rented for less than 15 calendar days in a year. Typically, an individual’s rental income must be reported in full. However, if you rent your property for 14 days or less, none of the rental income is reportable, and none of the rental expenses are deductible. See Conitzer Properties, for more details.
When deciding on renting out your property, it is becoming increasingly important for both the government and taxpayers to have clear guidance with regards to tax compliance. Research has shown that many of those who are engaged in the sharing economy don’t know about their tax obligations and failed to put aside money to meet those obligations. The attorneys at Sternberg Legal PLLC regularly advise individuals and companies that utilize the sharing economy to earn additional revenues. While we regularly work with the subject material of this article, each situation is unique and subject to its own facts. Accordingly, please be advise that nothing in this article is intended to constitute, nor shall it constitute, legal advice.
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Private Placements are a type of securities offering used to raise capital for a venture or company. A private placement securities offering is not sold through a public offering nor on any exchange, but rather through a private offering, mostly to a small number of investors. Private placements are significant to capital formation in the United States. For instance, more than two-thirds of all debt issuances are privately placed.
Privately placed securities do not have to be registered with the Securities and Exchange Commission (SEC) if the issuance of the securities conforms to a registration exemption as set forth in the Securities Act of 1933 and SEC rules promulgated thereunder. Most private placements are offered under the rules known as Regulation D. Common exemptions from the Securities Act of 1933 allow an unlimited number of Accredited Investors (as defined by the SEC) to purchase securities in an offering.
An Accredited Investor may be a natural person or an entity such as a bank, partnership, corporation, or a trust.
For a natural person, an accredited investor includes anyone who:
- earned income that exceeded $200,000 (or $300,000 together with a spouse) in each of the prior two years, and reasonably expects the same for the current year, or
- has a net worth over $1 million, either alone or together with a spouse (excluding the value of the person’s primary residence.
The following non natural persons may be accredited investors:
- any trust, with total assets in excess of $5 million, not formed specifically to purchase the securities in question, whose purchase is directed by a sophisticated person, or
- any entity in which all of the equity owners are accredited investors.
In most cases, all investors must have sufficient financial knowledge and experience to be capable of evaluating the risks and merits of investing in a company.
What Is a Private Placement Memorandum?
When you are looking to do a private offering, a private placement memorandum (PPM) is the legal document prepared for distribution to prospective investors. It is sometimes referred to as an offering memorandum or offering document. The basic notion behind the PPM is to fully inform the prospective investor about all aspects of your business, management, prior financial performance, and future prospects, as well as the risks involved.
Who May Benefit From a Private Placement?
- A startup looking to raise capital
- Businesses with large investment needs
- Real Estate developers and entrepreneurs
- Investors interested in privately investing in a company.
If you are interested in using a securities offering to raise capital for a venture or company, call or email us to schedule a consultation to discuss the costs, timeline and regulatory considerations involved in a private placement or fund formation.
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How to Avoid Piercing The Corporate Veil
Often founders are so busy running their companies, they don’t have the time to sit down and follow legal formalities for their business. However, a main reason for incorporating your business or forming a Limited Liability Company (LLC) is for the personal asset protection they provide. However, this protection is not guaranteed.
Corporations and LLCs exist separately from their owners. Nevertheless, the protection provided by having an entity separate from its owners may be lost when there has been a Piercing of the Corporate Veil. This occurs when certain conditions aren’t followed by corporate participants and they therefore lose their protection and limited liability. Essentially, the shield or “veil" is broken and the shareholders become liable for the corporation’s obligations.
These are the three simple actions to keep in order while running your corporation to maintain your limited liability.1. Observe Corporate Formalities The most common factors that courts mention in piercing the corporate veil is whether the corporate participants have observed corporate formalities. These formalities include:
- Holding shareholders’ and directors' meetings,
- issuing of stock,
- election of directors and officers,
- passing resolutions authorizing payments,
- and keeping corporate minutes.
The rationale and attention courts five to corporate formalities care for a few reasons. It is argued that anyone who disregards the corporate form should not be allowed to claim the privilege of limited liability. Second, that the failure to observe formalities may indicate that creditors have been confused or misled about whom they were dealing with. Third, that a lack of formalities suggest shareholders systematically disregarded corporate obligations.
2. Keep your corporate or LLC status known in your dealings Create business cards that display the name of your corporation and LLC. Make purchases and pay invoices via a business checking account or credit card. Create invoices in the company name to send to your clients. Also, any contracts, leases and/or documents you sign should be in the company name.
3. Maintain seperate bank accounts for personal and your company Courts also justify piercing when shareholders fail to keep corporate and personal assets separate. Using a corporate bank account to pay for personal expenses is a sure way to risk a piercing scenario. Similar to maintaining corporate formailites, creditors have a valid expectation that business assets will be availble to meet their claims. Therefore, use a business checking and business credit card only for business expenses.A court may "pierce the corporate veil" and award your personal assets to any plaintiff if it can't distinguish between what belongs to the business and what belongs to the owner or the owners cannot provide proof that all formalities have been followed.
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How to Choose a Business EntityWhat is the difference in all of the available entities? Which is the best for my company? Why is Delaware so popular?
There are a select few corporate entities types that are used in the United States, and you’ve most likely dealt with each form in one way or another before. Each type of entity has its own advantages and disadvantages — in terms of tax, personal liabilities, future fund raising factors and so on.
First, it is important to understand what a corporation is and also what purpose they have in operating a business. A corporation is a legal entity that can enter into contracts, own property, and be a party in a court. It comes in assorted sizes, from publicly held to one person businesses. The beauty of a corporation, is that no two are alike. It is a legal construct which gives business participants significant freedom in choosing their own customized relationships. That is why it is important to have a general idea of the benefits and disadvantages of each type to fit into your specific scenario. Each state has their own (often similar) statutory framework for their corporations' operations. However, there is room outside of the framework to run a corporation.
The Limited Liability Company
A hybrid entity between a Partnership and a Corporation. Members are not personally liable for the debts of the LLC entity. As far as tax implications, LLCs have the choice to be taxed as a flow-through entity. The LLC is much simpler to run compared with a corporation. While a corporation requires a board of directors, officers, regular director's meetings and shareholder's meetings, an LLC does not require these formalities. It can be run day-to-day as though it were a partnership, even though it has some of the liability and tax protections of a corporation. In its Operating Agreement, an LLC can determine how to distribute profits in proportions other than investment percentages. Additionally, an LLC doesn't have restrictions on the type and number of partners the way an S Corporation does. In fact, your members can even be foreign nationals or other companies, with no limit on the maximum number of members.
The C Corporation
A C corporation is the default corporate structure. A C corporation is taxed separately from its individual owners, which means its profits are taxed through the corporation and the owners only pay taxes on the income they receive from the corporation. Additionally, if the owners also make profits from the corporation in the form of dividends, these profits are also taxed as income, even though they have already been taxed through the corporation. This taxation system is often called double taxation. This corporate structure applies anytime a business owner decides to form a corporation unless filing for S corporation status. While double taxation may seem like a drawback, don’t be so quick to dismiss this type of entity. There are benefits to the C corporation. It can be easier to build capital with a C corporation because the taxes on the corporation are lower than individual income taxes and as long as the dividends stay within the corporation, this can quickly accumulate into capital for the corporation. Under the C Corporation, owners can provide generous benefits to employees, which are tax-free to the employees and are write-offs for the corporation. Moreover, foreign residents and nationals are allowed to form C corporations in the United States and any type of business can become a C corporation.
The S Corporation Status
The IRS allows certain corporation to elect flow-through tax treatment. It is not subject to any entity tax, and all corporate income, losses, deductions, and credits flow through to the shareholders. However, to be eligible here are the main S corporation limitations:
- It must be a U.S. corporation.
- It must have no more than 100 shareholders. However, all members of a family are counted as a single shareholder. Spouses are also counted as a single shareholder.
- Its shareholders can only be individuals, certain trusts, and estates; they may not be partnerships, corporations or non-resident aliens.
- It can have only one class of stock. But, it can have voting and non-voting stock within that single class of stock.
- Certain financial institutions, insurance companies, and domestic international sales corporations are ineligible.
LLC vs the S Corporation
Both of these organizational forms share the characteristic of having "passing-through" income to owner(s). A big difference between an LLC vs an S Corporation is that LLCs do not have the same restrictions on ownership. S Corporations must be owned by individuals (or trusts) that are U.S. citizens or residents, and there must not be more than 100 shareholders. LLCs may be owned by other LLCs or corporations and the owners do not have to be U.S. citizens or residents. There may be an unlimited number of owners in an LLC. Now that you understand the different types, you may be wondering which state should I incorporate in?
Why are Delaware Corporations popular?
- Angel and VC investors tend to prefer to invest in Delaware Corporations
- There is extensive precedent on Delaware Corporate case law
- Corporate case law in Delaware is much more extensive than in other states due to the high volume of corporate cases. With more case law, there is stronger predictability of the likely judicial resolution of a business law dispute.
- There are privacy protections in Delaware Specifically, Delaware does not require officer or director names to be disclosed on formation documents. This provides a layer of anonymity that is not available in some states.
While there are many options and particularities, each entity form has its own advantages and disadvantages to keep in mind. If you are looking for VC Funding, most VC firms will only invest in a C Corporation. However, this does not mean you have to start as a C Corporation. You can convert an S Corporation back to a C Corporation. If you’re looking to build a lifestyle business, an LLC may be your best option with its flexibility and ease of maintenance. If you are looking to file, change or maintain a corporation, Sternberg Legal can review your options with you.
Disclaimer: This article discusses general legal issues, but it does not constitute legal advice in any respect. No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel in the relevant jurisdiction.
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