Starting & Operating a Small Business in NJ
Presenter: Todd Hooker and Kelly Stoll
Note: Askin & Hooker Law produced and recorded this webinar for the ear and it was designed to be watched and heard. If you are able to, we strongly recommend watching the webinar which will include emotion and emphasis that isn’t obvious when reading a transcript. Our transcripts are generated using a combination of speech recognition software and humans and may contain errors. Please check the corresponding audio before quoting in print. This is not meant to be legal advice.
Hello, everybody. This is Todd Hooker. I’m waiting to hear if we should begin just yet, but maybe since it’s a little after 6:00, we’ll get started. I have here with me, virtually, Kelly Stoll, who’s going to begin the presentation this evening. And I think what we’re going to try to do is if you have questions at the end, I think we’re able to put them in the chat and we can address them at the end of the presentation. This is all not new, obviously virtual, but for me doing a webinar like this for participants and not having interaction is a little new, so we’re going to try to do our best to get to your questions and answer them. And in the meantime, sit back and hopefully we’ll provide some useful and interesting information for you. So with that, I’m going to turn it over to Kelly. She’s going to begin our presentation and we’ll go from there.
Good evening, everyone. And thank you for joining us tonight. Hopefully you find this informative and you’re here because you are thinking about or running a small business, and you find that helpful. I’m going to start off by talking about some different options for small businesses and different ways that you can organize yourselves in order to run a business. The first option is a sole proprietorship. These are four different classes of ways to organize. So there’s a sole proprietorship, a partnership, limited liability companies, and corporations. There are different types of partnerships, there’s different types of limited liability companies, and there’s different types of corporations.
When it comes to partnerships, you can have a general partnership, which is just two people working together. You can have a limited partnership where the two partners or more have different roles and responsibilities and different obligations. Or you can have limited liability partnerships, which is like a limited partnership, but incorporates some more corporate protections. You can also have limited liability companies and they can be formed in all different ways. You can do it as a single member. You can have multiple members. You can have it managed by one of the members or managed by a manager selected by the members. And then as far as corporations go, there’s also two different options for corporations as far as tax designations. You can have an S Corp which is a tax designation or a C Corp, which is what most people think about when you think about corporations, a large company with shareholders.
So I’m going to go through each of these in a little bit more detail, but I did want to just give a quick overview so that you know the different organizations and the different forms that we’re going to be talking about here. And bear with us. We’re still getting the hang of this. I don’t know if I can change the page myself. There we go.
So the first one I mentioned is a sole proprietorship. A sole proprietorship is very easy. This is what happens when somebody wants to go start a business, you might want to go start baking cakes or being a florist or anything else for that matter. You can go out on your own and start a business and just operate it yourself. It only takes one person. You don’t need to do anything to form it. So it’s very easy. Very cheap, very inexpensive, and very easy. You don’t have to worry about agreeing with partners or accommodating other people or anything like that. When you want to start something out very quickly and very cheaply, and it’s all you, it works really well. You, as the sole proprietor, get to receive all of the profits.
You’re also responsible for all of the debts, the losses and the liabilities, which is one of the disadvantages that we’ll talk a little bit about. In addition to just being easy, quick, inexpensive, those are really the major benefits of a sole proprietorship. You don’t need to worry about having an attorney draft any documents or filing anything with the state or anything like that. The tax advantages are beneficial in that you’re not a corporation, so you don’t have a company being taxed and then you as an individual being taxed a second time based on what you received from the company. So you don’t have that double taxation issue.
There are some downsides, which I kind of briefly touched on, the biggest one being that you’re also liable for any liability of the business. So if somebody wants to sue the business, they’re suing you personally, as an individual person and any assets that you personally own like money, houses, anything like that, all of that is subject to any liability that the business has. So that is a major downside that a lot of people are concerned about, but it really… Sometimes it’s a trade off that is worth speaking to an attorney about, because it might make sense in some circumstances, especially where you’re engaging in a business that doesn’t have such a high risk for liability. If you have a lower risk for liability, this might be a really good option for you. It’s also good where you don’t need to worry about raising capital or finding investors or anything like that.
Another downside to a sole proprietorship is that there’s no continuity. You are the business, you’re the sole business. So if something happens to you, you become incapacitated, you pass away, the business would just end. Anything you own for the business, you own personally, so that would just be sold off. There’s nobody to continue the business. So that is a major downside to sole proprietors.
The other class of organizations that I mentioned briefly is partnerships. And in some ways this can work a little bit like a sole proprietorship in that you can start a partnership with just two people who want to go into business together. Maybe you’re going to start a small business and you have one person that you want to work with and you could be a florist or anything else for that matter, but you’re going to work with somebody. Both partners going into that by default, if you don’t do anything, would be treated as general partners. Being a general partner means that you are responsible for any losses of the business, just like with a sole proprietorship. You also get to reap all of the benefits of the business and you get total control over how to manage it along with your partner. So both partners are personally and equally liable, meaning that they get to equally share in the profits. They’re equally liable for the business as a whole, not just their part in it. So you could also be responsible for anything that your partner does in connection with that business.
With a limited partnership, that’s something where you can find something, to have limited partners. There still has to be a general partner who would still be liable for the business as a whole, and for anything that occurs in the context of that business. But then you also have limited partners whose liability would only be limited to their investment or what they’ve put into it. So they can’t lose more than they’ve put in. They wouldn’t be responsible for the other partners or for the business as a whole. Their control and their involvement and their level of management and decision-making is similarly limited though. So that may not be the best set up or the best scenario for some people. It could work very well. It just depends on the specific circumstances, business, individuals involved. So that’s another consideration.
As far as advantages of a partnership, you have a partner, there’s another source of capital. So you can bring all of that up and sort of rely on that. It’s pretty easy to do. You don’t have to go crazy keeping a corporate book or having regular meetings or minutes or dealing with operating agreements or partnership agreements, if you don’t want to. So those are all benefits to having a partnership. You don’t have to deal with a lot of that stuff. You have a lot more control. And again, just the ease of setting it up. Partnerships are generally treated as separate entities. And when I said separate entities, I mean, it’s almost like creating an artificial person. An individual person can have assets or liabilities, but a separate entity that’s almost like an artificial person can as well. So the partnership is treated almost as another person.
Those partnership interests can be issued and transferred, so you can transfer them to other people. It’s not as easy as doing it in some other forms though. So that’s something that can be an advantage or a disadvantage with a partnership. I think I already mentioned that as far as personal liability, every general partner is liable for the business. So if there’s two general partners, they’re both liable for the business as a whole. If there’s one, that’s the person who’s liable. Divided authority, what we mean by that is I mentioned that you can have limited partners, limited partners don’t have the same level of control. Yes, they get to protect themselves from some of the liability, although not all, but they also don’t get to exercise the same level of control over the business.
And then there’s the obvious, you have to have a partner you get along with, and that you can work with. You do have obligations to each other and have to work together. So it’s something that you have to be relatively confident and comfortable in the person that you’re going into business with. If you wanted to create a limited partnership, it’s not quite as easy as just a general partnership, because you may have to file some paperwork with the state to be recognized as a limited partnership. And you also want to get into, especially where one partner has a lot of liability and one or more other partners don’t, or have more limited liability, you need to start worrying about having some documents drafted, like operating agreement or partnership agreements, things like that. So it can be a little bit more cumbersome to form.
The limited liability company is a little bit of a hybrid and it’s got benefits of different forms. So it operates like a sole proprietorship or a partnership, but it gives you some of the protections that a corporation has. Most of the things I’ve talked about so far, the individual people involved, still have personal liability for whatever the business does. An LLC is a way to avoid some of that liability. So it protects the individual person from being sued, for example, because only the LLC can be sued or at least not without showing that you did something that shouldn’t be protected by the company. It’s… Okay.
The LLC has, I mentioned the limited liability, it gives you a lot more flexibility. There are default rules that address how LLCs are created and how they operate. And there’s default statutes in New Jersey. That being said, although there’s defaults, you can adapt almost any of them and come up with your own system. So if, for example, the members of an LLC, each put in 10% of the funds that the LLC is using, by default maybe they only have 10% of an interest in that LLC. You could change that. You can have a membership agreement where one person has a 50% interest and everyone else has a 5% interest or something like that. So you have a lot more flexibility in setting it up and structuring it however you want.
Like a partnership, an LLC helps you avoid that issue of being double taxed. In other words, the LLC itself is not being taxed, the individual members are being taxed. So you’re not paying it on LLC and then on what you’re personally receiving from it. It is a little bit more of a headache to set up. It can be expensive. You need to worry about things like membership agreements. You need to file certificates of formation. So there’s a lot more rules and regulations, and it requires a lot more paperwork upfront that depending on the level can get expensive to have an attorney or somebody draft. So that is a downside to LLCs.
We also have corporations where the… I mentioned the S Corps and the C Corps before. S Corps are not… They’re recognized by the IRS if it’s a federal tax distinction. Where when you’re filing an LLC, for example, you can still make a tax designation where the LLC would be recognized as what we call that pass through entity, which avoids that double taxation problem. The LLC is not being taxed. So you can create a form of an organization under state law and just select the federal tax designation. So you kind of carry through a lot of those benefits of both a partnership or sole proprietorship, but still with the protections of the LLC and protecting you from personal liability.
Often we see C corporations, which you see a little bit more commonly, and that’s what you think about when you think about huge major companies. If you’re going to be publicly traded or you’re going to have a lot of members, for example, with an S corporation, you’re limited in the types of stocks or shares and the type of members that you can have, or who can hold those stocks and shares. You’re limited to 100 members or shareholders. You can’t have different classes of stock or shares. There are limitations on who can hold those stocks or shares. So you have to be a US citizen, you can’t be another company, different things like that. So there are a lot of limitations on an S Corp that might not make it ideal, depending on what type of business you’re going into. That being said, S Corp does have that pass through tax benefit.
The C Corp on the other hand allows you to do a little bit more. You can have different classes of stocks and shares, which can help raise capital for example, if you need to raise money, you can issue stock, shares, bonds in different classes. It’s also very easy to transfer those interests. So if you decide, I don’t want any part of this anymore, you can very easily just give away your stocks. You can also have specialized management because a corporation is required to follow certain norms, things like having a board of directors. Shareholders elect a board of directors. The board of directors makes decisions and manages the day-to-day affairs of the company. Those managers can be whoever the board of directors thinks is best. So if you need somebody with a specialized background or something like that, that’s who the board of directors can select.
I talked about the pass through tax treatment of an S Corp. So I’ll move on. But the downside to a corporation, specifically a C Corp is that it is more cumbersome. You need to do things like have annual meetings or special meetings. You need to allow the shareholders to vote. You need to have a system for them to vote. You need bylaws, you need to keep minutes, do corporate resolutions, different things like that. It is harder to, or it takes a little bit more, I shouldn’t say it’s harder, to actually set it up and to maintain it because it requires annual filings and things like that. You’re going to want more agreements, more documents controlling how the company’s run. And Todd’s going to get into that a little bit later. So I’m not going to dwell on it now, but it just takes a little bit more. I mentioned the limitations on some corporations that can kind of undermine what you might be trying to do. So those are all downsides to a corporation.
And you can see from all of this, that depending on the nature of what you’re doing and who you’re going to be working with, it’s really best to customize the type of organization, the forum that’s going to work the best for you, so that it eases your tax burdens, protects you from liability. All of those things have to be weighed very carefully to decide what takes precedence over the others. So these are all decisions about how to form that are really decisions that should be given a lot more thought than they often are and things that you may want to consult an attorney or somebody a little bit more knowledgeable about to make sure that you’re selecting the best form of organization [inaudible 00:18:51], to make sure that you’re receiving all of the benefits that lead you to select the particular form you did.
All right. Thanks, Kelly. Let’s see if I can get the next slide going here. So Kelly talked about documents that are required for forming or operating these different entity types. And if you start with corporations, which can be more burdensome in terms of the record keeping requirements. How you get a corporation started, is you will file for a certificate of incorporation. And that is both for a C Corp or an S Corp. So what happens is you form a corporation and then it’s a corporation. Then the question that you have to ask yourself is, is this going to be taxed as a C Corp or an S Corp? And if it’s going to be taxed as an S Corp, you do the S Corp election, and then it has to be done generally within 60 days of forming that corporation. You can’t wait on that.
So typically, and depending on the state of New Jersey, it’s called a certificate of incorporation. In other states, it might be called articles of incorporation, depending on where you are. But since this is about New Jersey, we’re going to go with the certificate of incorporation. Once you file your certificate of incorporation, you should have bylaws for the corporation. And those bylaws will tell you how the board of directors is going to be elected, how often, how long they can serve, how officers of the company are elected, how long they serve. Those are the types of things that are addressed in your bylaws. Also, you might address in the bylaws, how shares can be transferred if there’s different classes of shares if you’re a C corporation. That doesn’t apply to S corporations. Those are the types of things that are typically addressed in your bylaws.
You can also have shareholder agreements, if you have different classes of shares and how those can be granted, transferred, how a shareholder may be able to exit the company. Those are all typically addressed, if not in the bylaws than in a shareholder agreement. Then of course, we talked a little bit about the tax election and that really is just an election of a tax treatment. And those Kelly indicated if you’re… I think most people who are interested, at least participating here tonight, and most small businesses will want to be treated as an S corporation, as opposed to a C Corp because of the double taxation, although that did come down significantly from 35% to 20% in 2018. In terms of the tax rate for a C corporation, that’s likely to go up again. So keep that in mind. There was a little wave of people thinking that the C Corp was the way to go because of the low tax rate, but that may or may not be the case moving forward.
Now, one of the things that regardless of whether it’s a C or an S corporation, decisions of the corporation should be memorialized and that’s also discussed in the bylaws. So for example, when a corporation makes a decision, if you want to borrow money, and we’re going to talk more about these things as you move forward, in the slide show, but a bank’s not going to lend a corporation money, unless there’s a resolution by the corporation approving the application for that loan and putting the corporation at risk for paying that loan. And typically that resolution will be accompanied by meeting minutes. And if a notice of that meeting is required, a notice has to be shown and proven, or you can do a waiver of the notice. And if you have fewer shareholders, it’s easier to do a waiver, but if you have 50 shareholders, you’re likely not going to do a waiver.
So these are all governing documents that are typically associated with a corporation. And it’s say, I wouldn’t say burdensome, but it certainly is. I think that a lot of people, once they form their company, they just want to run their business. They don’t want to have to worry about keeping track of what we call corporate formalities and it does get important when you want to invoke the protection of the corporate form to protect you from personal liability. Because if you fail to maintain corporate norms, you might be subject to what’s called a veil piercing claim. And that is, for example, if you have a corporation where you’re using your personal bank account to funnel the corporate funds through, then you haven’t maintained corporate formalities, and you might be on the risk for being individually liable for your corporate debts.
So corporate formalities are important for ensuring that you get the protection of the liability protection that a corporation gives you, whether it’s a C Corp or an S Corp, and most people are going to be S Corps. And even if you’re an S Corp and it’s a pass through, which means you’re taxed at the individual level for the income of the corporation, the corporation itself should have its own bank accounts. It should maintain corporate records. All those things are important for ensuring you get the protection of the corporate form. Now the same is true for a limited liability company. You have to maintain the formalities of the limited liability company. And those are created very similarly to a corporation. You have to file a certificate of formation with the State of New Jersey.
And there’s a statute that Kelly touched on briefly in the state that indicates that if you fail to execute an operating agreement, the statute will dictate the operation of the LLC. So you’re much better off having an operating agreement and in particular, if you’re a multi-member LLC, because that will allow you and your business partners, who are members of your LLC, to agree on a contribution of capital and how profits will be distributed to the individuals who have formed the LLC. That way you don’t get into arguments later about who gets what, when money starts rolling in. Now, when you form a limited liability company in New Jersey, it is automatically taxed as a partnership, but you can select S Corp tax treatment for a limited liability company.
Now, if you’re a single member LLC, I would encourage you to select the S Corp partnership. But if you’re a multi-member LLC, you should talk to your financial professional as to whether or not that’s going to be advantageous for the members or the people who’ve contributed to the LLC. Because distributions for an LLC, if you’re taxed as an S Corp have to be equal. And it may not be equal in the minds of the members as to who is entitled to what. So those are the things that would typically require some foresight into how you elect your tax election for your LLC. And then one of the primary documents that you have as a limited liability company for formalizing the decisions of the company is something called a consent of members. It’s very similar to a corporate resolution.
And again, if you go to borrow money from the bank or you want to do, what’s called a buy-sell agreement, which we’ll get into later on. For an LLC, you want to have a resolution, or if you’re going to mend your operating agreement, you need a resolution, I’m sorry, a consent of members indicating that those things are being changed. It’s similar to how corporate resolution works for a corporation. So there are some formalities that have to be maintained for a limited liability company that are similar to a corporation. So that’s… Can I just move? Oops, oops. I just did something wrong there. Here we go.
For partnerships, if it’s a… You don’t necessarily need a partnership agreement for a general partnership, but like any good business, I think it’s paramount that you consider formalizing, even if it’s very rudimentary, what’s your understanding of how you’re going to be paid and your partner is going to be paid or your partners. So a partnership agreement works very similarly to an operating agreement for an LLC. And if it’s a limited liability partnership or a limited partnership, you will need a formation document. But if it’s just you and your friend, who’ve started your new business together, and you’re… I’m going to use, I think a common small business in our area and there’s a lot of them, and they’re all very good, is like a landscaping business.
You and your friend who’ve been working for another company decide to go out on your own. You got to buy lawn mowers and trucks. Those are capital contributions that may or may not be in the name of the partnership, but those types of details should be formalized. And is the partnership going to reimburse you at some point in time when it becomes profitable for those assets. All those things can be worked out in a partnership agreement. And I think it’s important, even if it is a partnership, and an agreement necessarily isn’t required, legally you should probably consider one if it’s going to be you and somebody you’re working with. Because we have seen it, unfortunately, those types of things where agreements aren’t in place, disagreements can be had. And then next thing you’re fighting with your partner about how much you should be paid, or how much he or she should be paid from the partnership if it’s not memorialized in writing.
Now, there was a recent appellate division case, it related to LLCs, that I think is important. And it’s revolves around a medical practice. Doctors are no different, they want to treat patients and they want to get paid and they’re not necessarily worried about corporate formalities. And what they did was they formed an LLC, it was 10 doctors. They had a draft operating agreement that got circulated amongst the members of the LLC, and it never got signed. But the LLC or the medical practice continued to operate for several years without a signed agreement. A couple of the doctors wanted to leave and obviously litigation ensued about who was entitled to what, and the trial court said that the company was operating pursuant to the terms of the operating agreement. Therefore, the operating agreement, even though it was never executed, was the document that controlled how the departing members were going to be treated.
Well, that went up on appeal to the appellate division. Then the appellate division said, no, it was never signed. Therefore the operating agreement doesn’t exist and the limited liability company statute that governs how limited liability companies operate in New Jersey in the absence of an operating agreement will control. So that’s a very recent case that came down in May last month, at the end of the month, that just reinforces the importance if you’re going to have a multi-member entity again, whether it’s an LLC, that case applied to an LLC, or a partnership, these things should be in writing. But again, what happens to most people is they get excited. They form their business. They start marketing their business, trying to get clients or accounts that they want to get their invoices out. They want to get paid. And the next thing you know, the corporate formalities fall by the wayside and then those things don’t happen.
So I just want to stress the importance of these various agreements and what they can do and not do for you and why they should be done. There might be some questions associated with this. Please put them in the chat when our moderator allows you to do so. Other documents to consider. And we talked about this a little bit, buy-sell and interest redemption agreements. Typically, whether it’s a shareholder agreement, an operating agreement for an LLC, or a partnership agreement for a partnership, you want to control how your partner can dispose of their interests, or what happens to your partner’s interest when he or she passes, how is that going to be controlled? And a lot of times you’ll do what’s called a buy-sell agreement or an interest redemption agreement that dictates what’s going to happen when a partner either leaves or passes.
And typically in the case of somebody passing, the company will want to get a life insurance on the individual members. And LLCs the corporation that happens a lot. And also what they call key man policies, which is in C Corps in particular, somebody who’s really important to the company, even if they’re not a shareholder of it, possibly the face of the company, there’ll be a key man policy to protect the value of that person to the company, if he or she would have to pass. So those are different types of things you want to think about, maybe not when you form it and get started, but as the business grows, and it becomes a part of how you pay your mortgage and send your kids to school and all those things, those are interests you have to protect. And a buy-sell and/or interest redemption agreement can help you along those lines.
The other thing that kind of falls into that is, let’s go back to the landscaping company, you and your partner who started the landscaping company are doing well, five years in your partner says, “Hey, I want to go pursue other interests.” You buy out his share. And then he opens up a new landscaping company right down the street and is taking the customers that you together had for five years. So when you’re doing an interest redemption agreement, you oftentimes want to build in a non-compete agreement. That can also be true for your employees. And we’re going to talk a little bit more about that, I think on the next slide or two. Non-disclosure agreements, again, you can protect your business information and all of these things can be part of an operating agreement, for example, or they can be separate agreements.
Now, as you get down into hiring employees, not everybody will hire employees right away, but you might want to think about an employment agreement or an employee handbook if you don’t want to do employment agreements, but have at-will employees. But if you do have employment agreements, you’d want to consider also non-competes and non-disclosure agreements with your employment agreements. And then the independent contractor agreements are a way that some businesses will treat people who assist them in generating revenue for their business. The IRS has some pretty strict tests for determining whether somebody is an independent contractor or an employee. And I would encourage you to seek out advice before you want to treat somebody as an independent contractor, because there are some things that make it apparent to the IRS and the State of New Jersey for purposes of workers’ compensation insurance requirements, that whether a person is an employee or an independent contractor.
And if you have an independent contractor agreement, you’re probably not going to have a non-compete because an independent contractor is just that, an independent contractor works for more than just one business, not just you. And if there’s a non-compete in the independent contractor agreement, that independent contractor is probably an employee and not an independent contractor. So these are things that come up as your business grows, and you’re hiring people to help you generate the revenue that you’re trying to get, because that’s the reason you started your business. You have a good idea and you want to make some money, but these are all things you have to consider as you move into having your business grow and be successful.
Businesses also will, although in this day and age you may not enter into a lease with everything being virtual. But I think that most businesses will want a storefront if you’re a florist, as Kelly said, or if you’re a landscaper, most towns have a restriction on how much commercial equipment you can keep at your house or store at your house before you become a use that’s not permitted in the zone. So a lot of businesses will rent property and commercial leases are part of that. And a lot of landlords, in particular if you’re a new company or in a small company, will want a personal guarantee associated with the commercial lease. And we talked about purchasing commercial property.
If your business is successful and you want to buy a building, because it’s a good way to build your nest egg, because your business will pay rent to the entity that you formed to own the property. Banks who are going to lend you that money will want all of those corporate formalities we just talked about to be set forth to them when they lend you money. I know this because we represent several local banks when they lend money on commercial loans and I’ve had to deal with business owners and their attorneys on making sure their corporate formalities were in place. So when you want to sell your business, you might have an asset purchase agreement, or if you’re going to buy somebody else’s business to add to your own, those are the types of things that you might be dealing with. Or if you’re buying a business to start the business, you’re probably going to be dealing with an asset purchase agreement.
And of course if you’re a business, you’re going to have suppliers, vendors, there are various agreements that you’re probably going to enter into, even if you’re just a law firm like us, we have copiers, we have other things and supplies that we need, and there are agreements associated with all of those accoutrement that we need to run that the law firm. Now, I’ve seen this non-disclosure agreements in various forms. So for example, if you’re buying a company by way of an asset purchase agreement, and you’re reviewing their books to make sure that they’re as profitable as they say they are, you might be entering into a non-disclosure agreement for the company that you’re purchasing, because they don’t want you to tell everybody else how good or bad their company is.
Also, if you hire an IT consultant, for example, to come in and help you set up your business and there’s proprietary information on your computer system, that you don’t want the IT consultant to disclose once he or she walks out of your door, you can have a non-disclosure agreement. Those are pretty common with IT consultants. And then of course, customer agreements, this is important if you’re front facing to consumers that, I think the best example is contractors who work with homeowners. In New Jersey, there’s something called the New Jersey Consumer Fraud Act, and it’s for New Jersey consumer protection. And that is, it sets forth certain requirements. If you’re a contractor, you’re going to do a bathroom for a homeowner, there are certain requirements you have to have in your estimates. If you’re going to do a change order and you’re invoicing, that’s all covered in the consumer product. And if you violate that, then you could be in trouble and not the person who didn’t pay you.
So you have to be cognizant of the New Jersey laws that apply to your specific business in dealing with consumers who are front-facing, what I consider more of a retail type environment. You’re not a big company who’s building a commercial building. Maybe you are, and that’s great, but typically, what you have are contractors who do baths or kitchens or siting or roofs. And there are very specific requirements when you’re dealing with homeowners in particular, in New Jersey under the Consumer Fraud Act that you have to be cognizant of.
So what I see a lot in contract litigation is either there’s no contract, the old handshake deal, which believe it or not still allows a lot of business to get done. But what happens when the handshake deal doesn’t work, there’s typically a fight over who owes who how much money, but even when there is a contract, sometimes the contracts are very bad. They’re copy and pasted from other contracts, are downloaded from the internet. They have provisions that make no sense to the deal that’s being struck. And some examples I have here on this slide, so for example, overbroad non-compete provisions. New Jersey law on non-compete is pretty well settled, although seems to be changing here and there in particular with what they consider consideration. So in order to have a contract in New Jersey, you have to have offer acceptance and consideration.
And what that means is there’s an offer, there’s acceptance and consideration is the money exchanged. So a lot of employment lawyers have been attacking non-compete provisions in employment contracts as lacking consideration, because… So there’s a lot of discussions about how to overcome that. But the biggest problem I see in non-compete provisions mostly is that their overbroad, you can’t work anywhere in New Jersey for the next five years, that probably will not be enforced. The person has to be allowed to make a living. So the non-compete provision has to be tailored to the specific business and geographic location. But typically what happens is they’ll say, “I downloaded this from the internet. It looks good. I’m just going to paste it in and do it that way.”
A lot of times when we meet with clients who want to have a dispute over a contract, they want to know if they can get their attorney’s fees paid. And unless the contract says you can, you can not. So the contract that you’re drafting or working with should include a attorney fee and cost of litigation provision either for you or for the prevailing party, depending on how sophisticated the other side is. It typically revolves around the prevailing party getting their fees reimbursed, but not always. Also what happens a lot is if you’re a New Jersey business and your vendor’s in Pennsylvania and your vendor sends you some shoddy… Say you’re a contractor and you get termite infested two by fours from the lumberyard in Pennsylvania. And the purchase order says, “Oh, just a few tests we resolved in Pennsylvania.” Then you’re going to Pennsylvania to litigate that dispute and not New Jersey, or if you’re dealing with a New York company, those are a lot of times what they have. It’s called a forum selection clause, that is you’re selecting the forum where any dispute will be heard.
So you have to be cognizant if those provisions are in your contract, or choice of law provisions. So if you have a New Jersey company and a Pennsylvania company entering into a contract, or a New York company, the choice of law may say New York law applies or Pennsylvania law applies, but you want New Jersey law to apply. For example, in construction, there’s something called the Prompt Pay Act, that New Jersey has a very strong Prompt Pay Act that can apply to certain types of construction contracts. Pennsylvania does not, or theirs is more limited to public projects. New York’s has a very strong Prompt Pay Act that doesn’t allow you to have a choice of law provision. So depending on where the choice of law is may depend on how successful your case turns out to be. So those are all things to think about.
Also confidentiality may be important in an employment agreement or a non-disclosure agreement. So these are all different things to think about as you’re moving forward with your company. And we see a lot of mistakes or things that weren’t considered as people dove into their excitement of their business. The other thing that you get the benefit of is there’s a lot of requirements for being a business owner in New Jersey and in other states as well. But in New Jersey, if you have employees, you are required to have workers’ compensation insurance. And it’s not just for employers whose business is dangerous. Even here at our law firm, we’re required to have workers’ compensation insurance. New Jersey also has a mandatory paid sick leave law. And there may be licensing requirements for example, if you’re a contractor, professional hairdresser, there’s licensing requirements that you have to adhere to.
And of course, in New Jersey there’s laws on hiring and firing. Now New Jersey is… Unless there’s an employment agreement that governs the relationship, in the New Jersey law, your employees you hire will be at will employees, and they can be fired for any reason or no reason whatsoever, so as long as the reason is non-discriminatory. That’s always the caveat, right? And New Jersey has a very strong law against discrimination, that if you are an employee and you get sued for a claim violating the law against discrimination in New Jersey, and you lose, not only are you going to pay damages, but you’re going to pay the other side’s attorney fees and costs. Because it’s in the statute that says there’s fee shifting.
And of course there’s benefits. If you’re a small employer and as the owner of the company, you get a health plan for the company that you think is only going to cover you and not your employees. That’s probably not going to happen at all. So when you’re getting benefits for your company, you have to understand what the requirements are, whether it’s a 401(k) or health plan, any other group benefits. So understanding what that means for you if you have employees and you have group benefit plans. And there’s obviously local requirements. Again, if you’re a business and you’re operating in your town, in your home, your local requirements may not allow you to do that. Or if you want to buy commercial property, make sure the commercial property is in the zone that allows you to operate your business in.
And then of course, there’s sign requirements. Every town is different. Sparta for example, has a very rigorous sign requirement. And then also when you start your business, they will typically require you to get a certificate of occupancy for that business, depending on the town. So there’s a lot of things to think about as you’re starting your business. But there are ways to protect your business. We talked about non-compete agreements with your employees or your partners if they leave, or your business associates if they leave. And that also includes your proprietary business information. So I think a lot of people think of proprietary business information.
There is a definition in the New Jersey statute for this type of stuff, and it doesn’t include your client list, lead generation, how you might do your accounting and realization for profitability. If you have specialized suppliers or contractors. This could, it’s not necessarily always proprietary business information, but it could be. And it’s something you need to think about as you’re dealing with the departing members, departing partners, employees who are leaving your employ. So depending on your business, these are things to think about. And it could be… I’ve seen this in big companies and small companies, whether it’s, again, a landscaping company, or a hair salon. These things do come up. So you need to think about those. And again, it really depends on… I think for a new business, a lot of people don’t think about these things, but for business that’s been going on for a while and that makes a decent living for you as the business owner, these are the things you want to think about protecting.
We talked a little bit about what happens when a member of an LLC or partnership might die in terms of a buy-sell agreement. But beyond that, you have to think about how this impacts your estate planning, whether you’re going to sell to employees, all of these things will come up, unless it’s a sole proprietorship. But if you have a formed entity, these are the different types of issues you need to think about. If you’ve been operating for 30 years, and you’re thinking about retiring and your business generates two or 3 million revenue a year, and you’ve got seven employees, a lot of people might not think that’s a big deal, but it really is to a lot of people because that’s how they paid their mortgage, put their kids through college. And that company has a value. So if it can be sold or continue to operate, and you can continue to obtain the fruits of that after you retire, because you’re a shareholder or an officer or on the board, those are the types of things you need to think about succession planning.
And this will go hand in hand with your estate planning, any contingency planning, for example, if you’re disabled and you can no longer do your job, truly applies to anything, whether you’re sit behind a desk or you’re a trades guy or gal. So you need to think about how that’s going to be transferred, are the stock going to go to your children and through your will? Are you going to sell it to your employees? Typically, whether you do any of those things, as you start to plan that you will need to know the value of your business and then your exit strategy. And again, these are all things to think about as your business grows and is successful and what the next step of your business is.
And of course, document maintenance, and that applies across your entire business from your formation documents, your governance documents, your accounting information, payroll, cause all of those things could all come back to bite you in the butt if you’re not maintaining your documents and your records, if you were ever asked if somebody wants to pierce your corporate bail, or you need to get a loan, or you want to save your company, all of these document maintenance is very important. So I think that’s the gist of the document trail if you will, to implement those different entities that you have at your availability here in New Jersey to start and run your business.
This is the team here at Askan & Hooker, you see a picture of. I think if I stopped sharing my screen now, I’ll be able to see the chat and we’ll see if there’s any questions and we’ll try to address them. So you’ll get a bigger picture of me now, which is probably not something you want to see, but I’m going to stop sharing this.
So we do have a question. I don’t know if your screen is still adjusting Todd, but the question is, “If an LLC is set up as a single member LLC, can it be modified to add an additional member or members?”
Yes. So you can always add members to an LLC. The question you’ll have to address is the tax treatment of the LLC. Because I’m guessing that if you’re a single member LLC, it’s probably being taxed as a corporation. And then if you add a member you’re going to want to talk to your financial advisor about whether it should continue to be taxed as an S corporation or as a partnership. Because remember if you’re an S corporation, your tax as an S corporation as an LLC, the distributions have to be equal. So that may or may not be a good thing for this new member. That new member may not be entitled to as much as you are as the existing member. So the short answer is yes, you can always add members. The other question you have to address is the tax treatment of that entity.
That’s the only question I see. I don’t know if there’s any others that are on their way.
We’ll wait for a minute. I guess we can [inaudible 00:54:16]. See if there are any other questions. We said a lot. I can imagine if there are any questions.
You know what? Maybe we could take a quick break so everyone has a minute to think or digest or type just in case anybody’s typing. And then we can come back.
Let’s take a two minute break and we’ll resume and see if anybody has any other questions. If not, you can always of course contact us, but we’re here right now. So if you have a question, happy to answer, but we’ll take just a two minute break and we’ll see if anybody has any questions. If not, we’ll thank you for your participation and sign off for the evening, but take a short break and be right back with you.
Well, it looks like we had somebody start a question, but it looks like it got cut off. I don’t know if there’s a limit on the Zoom. No, it was a thank you for the informative presentation. Sure. No problem. I didn’t know if Alyssa had a question, it looked like she started one. So we’re going to gather her thoughts, but of course you can email us, but I think we might be done for the evening. It looks like there’s no other… The little bubbles aren’t moving around in the chat screen. So we’re going to sign off. Is there one more new one here? Let’s just see. Oh, there’s a new one. It’s in the Q&A as opposed to the chat. So the question is, “As a single member LLC, should I open a separate bank account to keep funds separate from personal accounts?”
The answer is yes, you absolutely should. And so, as a single member LLC, I’m guessing you’re being taxed as an S corporation and not withstanding the fact that it’s an S corporation single member and it’s a pass through, you should get an EIN because the bank will want one and the bank will also want a copy of your operating agreement. Most banks will. I’m assuming they want that. They’re going to want your certificate of formation, your operating agreement and your EIN, and that you should definitely keep your business funds separate from your personal accounts. As we discussed, one of the benefits of the LLC is it shields you from personal liability. And if you’re co-mingling business funds with personal funds, that is a one indicia of not keeping that corporate identity separate from the individual member and could be used against you to pierce the corporate veil. So I would highly recommend that you get a separate account.
Well, thanks for coming and listening to us. I hope you all found this informative. And personally, I just wish you… I assume you’re all thinking about or pursuing a small business, so I wish you the best of luck.
Indeed. Thank you very much. Have a great evening, everyone.