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By George S. Cabot
This article outlines certain procedures and
operations relevant to privately-held California corporations,
especially those that are newly formed. The summaries provide
a basic understanding of the legal requirements that a California
corporation should follow and should not be considered a complete
analysis of the areas discussed. Because this discussion is
general in nature, it should not be relied upon as complete
information regarding any of the matters discussed, but rather,
should be used as a general guide.
1.
Articles of Incorporation
2. Bylaws
3. Following Corporate
Formalities
4. Actions by the
Board of Directors
5. Actions by the
Shareholders
6. Federal and
State Regulation of Securities
8. Biennial Information
Filing with the Secretary of State
9. Annual Reports
10. Buy-Sell Agreements
11. Fictitious
Business Names
12. Doing Business
in Other States
13. State and
Local Business Licenses
14. Labor Laws
15. Verification
of Employment Eligibility
16. Employer Federal
Taxpayer Identification Number
17. Employer's
Payroll Withholding Taxes
18. Federal Income
and California Franchise Tax Returns
19. Estimated
Tax Installments
20. Accounting
Elections
21. S Corporation
Elections
22. Employee Benefit
Plans
23. California
Sales and Use Tax
24. Other Miscellaneous
Taxes
25. California
Workers' Compensation
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1. Articles of Incorporation
A California corporation is considered to be in existence
when its Articles of Incorporation have been filed with the
Secretary of State's Office. Generally the Articles are brief,
because very few items must be covered in the Articles to
make them effective; however, there are many matters that
the corporation might choose to include.
The Articles must include the name of the corporation;
a statement of business purpose; the name and address of the
corporation's initial agent for service of process; and a
statement of the total number of shares of stock and a description
of the different classes of stock (if there is more than one
class).
Certain provisions are only effective if contained
in the Articles, such as granting the corporation the power
to levy assessments on shares; granting shareholders preemptive
rights; creating special qualifications for shareholders;
limiting the corporation's duration; increasing the required
number of votes for actions by shareholders and directors
over the amount set forth by statute; restricting the powers
of the corporation or the businesses in which it may participate;
giving debt holders voting rights; limiting certain liabilities
of directors and permitting certain indemnification of corporate
agents; and granting shareholders the right to determine the
consideration for which corporate stock shall be issued.
California law allows a corporation to amend
the Articles in any way it desires, so long as the amendment
is lawful at the time the corporation chooses to add it to
the Articles. Before the corporation has issued its stock,
the Articles may be amended by a writing signed by a majority
of the incorporators, if directors have not been elected and
have not been listed in the original Articles, or by a majority
of the directors, if they have been elected or have been named
in the original Articles. Once stock has been issued, the
Articles generally may be amended or repealed by approval
of the Board and a majority of the outstanding shares entitled
to vote. Once an amendment is adopted, the corporation must
file a Certificate of Amendment with the Secretary of State
to make the amendment effective.
2. Bylaws
The Bylaws of the corporation set forth various corporate
procedures and matters affecting the governance of the corporation.
The Bylaws set forth in general terms the responsibilities
of the directors and corporate officers, the number of directors,
the manner of calling meetings of the shareholders and directors,
the maintenance of corporate records, the issuance of reports
to shareholders, the voting and proxy procedures, the regulation
of the transfer of corporate stock, and other general corporate
matters.
Bylaws generally may be adopted, amended, or
repealed by either the Board or by a vote of the shareholders;
however, the Bylaws may limit the Board's powers in this respect.
Certain provisions in the Bylaws require the approval of a
majority of the outstanding shares before they may be adopted
or changed, such as a change in the number of directors.
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3. Following Corporate Formalities
Corporate status generally shields the shareholders of
the corporation from individual liability for the acts of
the corporation. Courts allow this corporate privilege to
exist only as long as the corporation remains properly organized,
adequately capitalized, and completely separate as a legal
entity. If a court finds that the corporate privilege has
been abused, the corporate entity may be disregarded for the
purpose of remedying the specific abuse and the corporate
shareholders may be liable for the corporation's acts relating
to that abuse.
The legal theory upon which shareholder liability
is based is generally called the "alter-ego doctrine."
An individual attacking the corporate status to achieve shareholder
liability will try to "pierce the corporate veil,"
to prove that the corporation is merely an agent of the individuals
behind it. An individual trying to pierce the corporate veil
and assert the alter-ego doctrine must generally prove two
things: first, that there is a unity of interest and ownership
between the corporation and the shareholders, such that the
corporation and the shareholders are no longer separate or
individual; and second, that an injustice or fraud will occur,
if the corporation's actions are treated solely as the acts
of the corporation.
A corporation can reduce the possibility that
the individual shareholders will be subject to liability for
the corporation's actions by following the guidelines listed
below:
a. The corporation should ensure that it is adequately
capitalized from the time of its organization to enable it
to carry on its business.
b. The corporation should obtain insurance to
cover all of its reasonably insurable business risks. It is
suggested that the corporation consider coverage including
general liability insurance, fire and casualty insurance,
life and disability insurance for key personnel, insurance
to fund share repurchases in the event of death or disability
of a shareholder, business interruption insurance, and workers'
compensation insurance.
c. The corporation should observe all post-formation
corporate formalities, including but not limited to, holding
annual shareholders' meetings and holding regular directors'
meetings; keeping minutes of such meetings and clear records
of all corporate activities; maintaining up-to-date Bylaws
at the corporate executive offices; maintaining separateness
and arm's-length dealings between the corporation and the
directors and/or principal shareholders and requiring full
disclosure of any competing interests; and assuring approval
of the corporation's transactions either by the directors
or the shareholders as appropriate.
d. The officers and other authorized persons
should execute all letters, contracts or other documents,
signed on behalf of the corporation, in the corporation's
name rather than in their individual capacity. To do this,
a signature should give the name of the corporation and then
the officer's signature, name, and title. By way of example,
the signature block is generally drafted as follows:
[Corporate Name], a California corporation
By:
[Type president's name]
President
By:
[Type secretary's name]
Secretary
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A corporation may be asked by its bank or someone
else to have its corporate seal impressed on a bank resolution
or other formal document. The corporate seal will not affect
the validity of an instrument if there is failure to affix
it to a document. The reason is that effective January 1,
1977 section 207(a) of the California Corporation Code provides
that a corporation has power to: "(a) Adopt, use and
at will alter a corporate seal, but failure to affix a seal
does not affect the validity of any instrument." (Emphasis
added.) When the banker or other person is quoted this provision,
they usually drop their request for the seal.
e. Corporate funds should not be commingled with
the funds of the individual shareholders or any other entity
involved with the corporation. Furthermore, the corporation
should maintain separate operations and records from those
of other entities or subsidiaries and its shareholders.
f. All withholding tax payments should be made.
4. Actions by the Board
of Directors
The Board of Directors is responsible for managing the affairs
of the corporation and all corporate powers must be exercised
by or under the Board's direction. The Board is to make decisions
as a Board; the individual directors should not act alone.
The Board should make decisions involving corporate policy;
election of officers and determination of the officers' duties
and compensation; issuance of securities; adoption, amendment
or repeal of the Bylaws; participation in various business
transactions; execution of material leases and contracts;
declaration of dividends or redemption of shares; determination
of the corporation's budget; corporate borrowings; and other
major corporate transactions. The officers of the corporation
carry out the day-to-day functions of the corporation pursuant
to the direction and policies established by the Board.
The Board's actions are generally taken at meetings
of the Board, at which a quorum is present. These meetings
may either be regular meetings of the Board or special meetings.
Regular meetings are established in the Bylaws or are fixed
by the Board and require no notice. Special meetings, which
require notice, may be called by the corporate Secretary,
the Chairman of the Board, the President or various other
authorized people. Notice of such meeting is required. The
corporation's Bylaws should be consulted concerning when notice
must be given. In lieu of notice, directors can waive notice
by executing a waiver of notice and consent to meeting. Meetings
may also be conducted by telephone conference call, if all
parties can hear each other. Action may also be taken by unanimous
written consent, signed by all directors. The Secretary should
keep the minutes of the meetings and any written unanimous
consents in the corporate Minute Book.
The Board of Directors may establish committees
of Board members to exercise Board authority in various areas.
The California Corporations Code, however, reserves certain
authority to the full Board only. The Bylaws will typically
include a procedure for establishing such committees. Generally,
committee meetings and action are subject to the same procedures
as Board meetings and action with respect to notice, voting,
resolutions, and minutes.
5. Actions by the Shareholders
Various actions of the corporation require shareholder
approval. Some of these actions include: merger, consolidation,
reorganization, or dissolution of the corporation; sale or
transfer of all or substantially all the corporation's assets;
and amendment of the Articles of Incorporation.
A corporation is required under California law
to hold an annual shareholders' meeting. The date, place and
time for the meeting is usually designated in the Bylaws,
or the Bylaws may specify a procedure for fixing such information.
The first annual meeting must be held within 15 months of
incorporation and future annual meetings must be held within
15 months of the previous meeting. If a meeting is not timely
held, a shareholder may apply to the superior court for an
order demanding that the meeting be held.
The main purpose of the annual meeting is for
the shareholders to elect corporate directors whose term of
office expires with each annual meeting. Note that under California
law, shareholders usually have the right to vote cumulatively
for directors if proper procedures are followed. Of course,
any other proper corporate business may be transacted at the
meeting. Unless the Articles of Incorporation state otherwise,
a majority of the shares entitled to vote establishes a quorum.
Any shareholder action generally requires that a majority
of the shares establishing the quorum at the meeting vote
affirmatively for the action. The corporation must generally
give shareholders advance written notice of any meeting at
which the shareholders are required or permitted to vote.
The notice should specify each matter to be voted upon by
the shareholders. A record date (that is, the date on which
a person must have been a shareholder to vote at the meeting)
must be established by the Board of Directors and should be
stated in the notice.
Under certain circumstances, shareholder action
may be appropriate through written consents. Notice of such
actions must generally be given to all shareholders. Please
consult with counsel if such a written consent is proposed
to ensure that all requirement formalities are met.
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6. Federal and State Regulation
of Securities
Both the federal government and the states regulate the offering,
issuance, and sale of corporate stock and other securities.
Securities regulation is an extremely complex area of law.
Whenever the corporation is considering offering, issuing,
or selling its stock or options (whether to employees or to
outside third parties), it must be cognizant of the requirements
of the Federal Securities Act of 1933, the California Corporate
Securities Law of 1968, and the securities laws of the other
states.
Various exemptions from qualification and registration
requirements may be available to the corporation. In particular,
"private placement" exemptions may be available
where the stock issuances are to be made to 35 or fewer persons
who are provided designated information about the corporation,
where no advertising or general solicitation is employed,
where certain regulatory filings are made, and where certain
other requirements are met. Because of the complexity in this
area of law, counsel should be contacted prior to taking any
action involving the offering, issuance, or sale of the corporation's
securities.
7. Books, Records, Minutes
and Inspections
The corporation should keep records, consents, notices, and
minutes of the meetings of its shareholders, Board of Directors,
and committees of the Board in a Minute Book. A corporation
share register should also be kept, and should record certificate
numbers, names and addresses of shareholders, number of shares
owned, any transfers of stock, and canceled or reissued certificates.
The Minute Book should be kept and maintained at the corporation's
principal executive office.
There are various inspection rights afforded
to shareholders and directors of a corporation. All shareholders
have the right to inspect the corporation's Bylaws, at all
times during reasonable business hours. Up-to-date Bylaws
must be kept at the corporation's principal executive office
in the state or if its executive offices are not in California,
at its principal business office in the state.
Under California law, certain shareholders have
the right either to inspect and copy all the shareholders'
names and addresses or to receive such a list from the corporation.
Upon written demand on the corporation, any shareholder has
the right at any reasonable time, during business hours, to
inspect the accounting books, records, and minutes of the
meetings of the shareholders, the Board of Directors, and
the committees of the Board. Each director of the corporation
has the absolute right, at any reasonable time, to inspect
and copy all the books, records and documents of the corporation
and to inspect the physical property of the corporation.
8. Biennial Information Filing
with the Secretary of State
Within 90 days of filing its original Articles of Incorporation
and every two years thereafter, a corporation must file with
the Secretary of State an information statement (the "Statement
by Domestic Stock Corporation"), which states the names
and addresses of the corporation's incumbent directors, chief
executive officer, secretary and chief financial officer;
the number, if any, of vacancies on the Board of Directors;
the address of the corporation's principal executive office
or if such office is not in California, the address of the
corporation's principal business office in the state; and
a statement describing the principal business of the corporation.
The statement must also designate an agent for service of
process in the state. The corporation is required to file
this statement every two years during the calendar month in
which the corporation's original Articles were filed or in
any of the immediately preceding five calendar months. The
office of the Secretary of State generally sends the required
form to the corporation. The form states the last date on
which it may be filed. The corporation, however, is not excused
from compliance with the filing requirement if it does not
receive the form. There is a $250 penalty for a late filing
and a corporation may have its corporate powers, rights, and
privileges suspended for failing to file the statement.
If the designated agent for service of process
(or his or her address) changes, the corporation must file
a form designating the new agent with the Secretary of State.
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9. Annual Reports
A corporation with less than 100 record shareholders is not
required to send an annual report to its shareholders if the
corporation's Bylaws expressly waive the annual report requirement.
Nevertheless, as a matter of good shareholder relations, it
is advisable to send the shareholders some report of the activities
of the corporation.
A corporation generally should send an annual
report to its shareholders, not later than 120 days after
the end of the fiscal year and at least 15 days prior to the
annual shareholder meeting. The report should contain a balance
sheet as of the end of that fiscal year, an income statement,
and a statement of any changes in the corporation's financial
position for that fiscal year. The report should be accompanied
by any report from the corporation's independent accountants,
and if no accountant's report exists, by a certificate of
an authorized corporate officer stating that the statements
were prepared without audit of the corporation's books and
records.
10. Buy-Sell Agreements
Many start-up companies restrict the transfer of securities
held by their shareholders through a buy-sell agreement.
A buy-sell agreement typically may cover the
following:
1. Restrictions on transfer: when a shareholder
may or may not transfer his shares; to whom, if anyone, the
shareholder may sell the shares without consent; and the terms
of a right of first refusal for the other shareholders;
2. Mandatory repurchase: when the corporation
and/or other shareholders must repurchase the corporation
stock, including such incidents as death of a shareholder;
3. Optional repurchase: when the corporation
and/or other shareholders may repurchase the corporation stock,
such as upon termination of employment of a shareholder with
the corporation; and
4. Price and terms of sale: what valuation method
will be used to determine the price of the stock and what
terms of payment will be required.
11. Fictitious Business Names
If the corporation plans to transact business
under a name other than that which is listed on its Articles
of Incorporation, it is required to file a Fictitious Business
Name Statement with the clerk of the county in which the corporation
has its principal place of business. It is also prudent to
file a statement in the other counties where the corporation
will be transacting business. Once the statement is on file
with the county clerk, it must also be published in a newspaper
of general circulation, in the same county, once a week for
four consecutive weeks. Within 30 days of completion of publication,
an affidavit of publication must be filed with the county
clerk.
Fictitious Business Name Statement forms may
be obtained from the county clerk's office of the county in
which the corporation intends to file, or the newspaper that
will be publishing the statement. Fees for publication vary
according to which newspaper is used for publication. For
information on publication fees for Fictitious Business Name
Statements contact the Legal Advertising Department of a newspaper
of general circulation in the county in which the corporation
intends to file.
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12. Doing Business in Other
States
If the corporation is considering doing business in any state
other than California, the corporation should determine whether
prior to doing business, it is necessary for the corporation
to be qualified or registered to do business in that state.
The scope and extent of the corporation's activities will
govern whether such qualification will be necessary.
The corporation should also consider reviewing
the state's labor laws, taxing policies, and other business-related
regulations to determine what other state regulations will
affect the corporation's business in that state.
13. State and Local Business
Licenses
Many trades, professions, businesses, and occupations are
regulated by the State of California. The state requires that
corporations meet various qualifications before granting certain
certificates of registration or business licenses. The California
Department of Economic and Business Development publishes
the "California License Handbook," which lists sources
of licensing requirements, regulating agencies, and information
about licensing procedures. The handbook may be obtained,
for a small fee, by contacting the Office of Small Business
Development in Sacramento. Many cities also require that corporations
doing business within the city limits obtain a local business
license. For information regarding licensing, contact the
office that handles business licenses in the cities where
the corporation will be doing business.
14.Labor Laws
Employers are required to comply with numerous state and federal
laws which regulate employment conditions, including, but
not limited to the following: National Labor Relations Act
(union organizing); Fair Labor Standards Act (minimum, overtime
pay, etc.); Americans with Disabilities Act (discrimination
against the disabled); Civil Rights Act (race, sex discrimination
in employment); Age Discrimination in Employment Act (age
discrimination); Family and Medical Leave Act of 1993 (family
care and medical leave); California Labor Code (minimum wage,
overtime pay, manner of payment); California Government Code
(race, sex, age, medical condition, physical handicap discrimination
in employment); Cal OSHA (safety); California's Fair Employment
& Housing Act (family leave); and common law theories
(wrongful discharge). Corporations should seek the advise
of competent labor law advisors to ensure compliance with
these laws.
15. Verification of Employment
Eligibility
Employers are required by the Immigration Reform and Control
Act of 1986 ("IRCA") to verify the work authorization
of each person hired within three business days of the date
of hire. An employer must complete and maintain INS Form I-9
for all employees, whether they are temporary, part-time or
full-time workers.
16. Employer Federal Taxpayer
Identification Number
A new business is required to obtain an Employer Identification
Number from the I.R.S. The number must be used on various
federal tax returns and documents. It is also necessary in
order to open bank accounts in the name of the corporation.
Application is made on Form SS-4 and should be filed with
the I.R.S. as soon as possible after the business begins or
in time to include the number on any return or document to
be filed with the appropriate I.R.S. office. Until a number
is received, the corporation may file forms stating that the
corporation has filed for the number and giving the date on
which the application was filed.
17. Employer's Payroll Withholding
Taxes
Under federal tax laws, a corporate employer generally must
withhold both income and social security tax from an employee's
taxable wages. The procedures to be followed for these withholding
taxes are detailed in the IRS publication IRS Circular E,
"Employer Tax Guide." Willful failure on the part
of an employer to collect, account for and pay withholding
taxes subjects the employer to a significant monetary penalty.
Also, officers of the corporation or others responsible for
remitting the withholding tax may be held personally liable
for failure to act.
A general description of the federal withholding
procedures follows. However, when computing these taxes please
refer to Circular E, mentioned above, or contact the corporation's
accountant. An employer should have every employee complete
an IRS Form W-4, "Employee's Withholding Allowance Certificate."
The employer should use the information furnished in the form
along with the tax tables provided in Circular E to determine
the amount of the employee's income which must be withheld
for income taxes and the employee's portion of social security
and Medicare taxes. An employer must also pay the employer's
portion of social security on Medicare taxes on wages paid
to its employees. The money the corporation owes as a result
of withholding and social security taxes should be deposited
with the IRS in the manner specified in Circular E. Deposits
are generally required to be made on a semi-monthly or monthly
basis, depending on the amount of the deposit. A federal withholding
tax return, I.R.S. Form 941, "Employer's Quarterly Federal
Tax Return," generally must be filed on or before the
end of the month following each calendar quarter. Before January
31 of each year, an employer must furnish each employee with
a combined federal and state withholding statement, IRS Form
W-2, "Wage and Tax Statement," for the preceding
year. If an employee has been terminated, this form must be
furnished at an earlier time.
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Although California's withholding procedures
are similar to those of the federal government there are many
differences between the two systems. For information on California
withholding taxes, review Form DE-44 "Employer's Tax
Guide for the Withholding, Payment, and Reporting of California
Income Tax," and the "Employer's Guide" (Form
DE 4525), which may be obtained from most offices of the California
Employment Development Department. The corporation's accountant
will also be helpful in answering questions and completing
all tax-related documents.
A corporation subject to the personal income
tax withholding requirements or the unemployment Insurance
Code must register with the California Employment Development
Department and file an Employer Registration Form (Form DE-1)
with any local Employment Tax District Office. This will enable
the corporation to obtain an Employment Development Department
account number. Like the federal withholding system, the California
system requires that all employees complete withholding information
forms. The withheld tax is generally submitted to the state
on a quarterly basis.
18. Federal Income and California
Franchise Tax Returns
Federal corporate income tax returns must be filed on or before
the fifteenth day of the third month following the close of
the corporation's taxable year. Generally, a corporation will
file its return on Form 1120. The California corporate franchise
tax is due on or before the fifteenth day of the third month
after the close of the corporation's taxable year. Corporate
officers should coordinate with the corporation's accountant
to ensure compliance with all tax requirements.
19. Estimated Tax Installments
Both federal tax laws and the California franchise tax laws
require corporations to pay estimated taxes. Federal law requires
all active corporations to pay the estimated tax in installments.
The first installment is generally due on the fifteenth day
of the fourth month of the corporation's taxable year. The
estimated tax is to be deposited in an authorized commercial
depository or a Federal Reserve Bank by the end of the day
on which the payment is due.
California requires all corporations to file
a declaration of estimated taxes. The declaration should be
made on Franchise Tax Board Form 100-ES. The California tax
is imposed on the corporation in advance of the year the tax
reflects, for the privilege of conducting business in California
during that next year. Generally, the tax is the greater of
an amount determined based upon the corporation's net income
for the preceding year, or $800 a year. This $800 minimum
tax is generally known as the "minimum franchise tax"
or "MFT". However, the first and second year MFT
may be less than this (or zero) depending upon the date of
incorporation.
In each of 1996, 1998 and 1999, the California
legislature has provided MFT relief for corporations. Effective
for corporations formed on or after January 1, 1997 the rules
were changed to provide that the MFT for a corporation's first
year of existence would be $600 if the corporation reasonably
estimated that it will have less than $1 million of gross
receipts during its first tax year. In 1998 this was changed
so that eligible corporations would pay a MFT of $300 for
the first year and $500 for the second year. However, the
eligibility rules were tightened to require that the corporation
be conducting a new business (i.e., sole proprietorships and
partnerships that are converting to corporate status are not
eligible). In 1999 the Legislature provided that any corporation
formed in California on or after January 1, 2000, and any
foreign corporation qualifying in California after January
1, 2000, will pay no MFT for its first two years of existence.
Because the MFT is paid a year in advance, the result is that
a corporation that is formed after January 1, 2000 will first
be required to pay a MFT with the first estimated tax payment
it makes with respect to its second fiscal year. For example,
a calendar year corporation that incorporates on January 1,
2000 will be required to pay at least $800 with its estimated
tax payment due on April 15, 2001 (the fifteenth day of the
fourth month of its second taxable year). If a corporation's
estimated taxes will be greater than the MFT, the tax must
be paid in quarterly installments. Thus, if a corporation
has taxable income in any year, including the first two taxable
years, it will be required to pay estimated taxes based upon
the estimated taxable income. For example, suppose a corporation
is formed on January 1, 2000 and the corporation estimates
that it will have taxable income which will result in it owing
$400 in tax for its first taxable year of Jan. 1, 2000 through
Dec. 31, 2000. Since the actual tax of $400 is greater than
the MFT (which is zero as a result of the 1999 legislation),
the corporation is required to pay estimated taxes of $400,
the first installment of which must be paid by April 15, 2000
(the fifteenth day of the fourth month of the taxable year).
The rules governing payment of federal estimated
taxes are found in Internal Revenue Code Sections 6154 and
6655. Instructions for filing are found in Form 1120-W. California
filing requirements will be found in the Franchise Tax Board
publication F.T.B. 1060, "Guide for Corporations Commencing
Business in California." Instructions for paying estimated
installment taxes are found in the Franchise Tax Board publication
F.T.B. 1062.
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20. Accounting Elections
A new corporation generally may elect to be taxed either on
a calendar year or fiscal year basis, so long as the taxable
year for income purposes is the same as the accounting year.
A corporation initially elects its filing period by filing
a timely income tax return at the end of its first (whole
or partial) taxable year.
The corporation must also choose between the
cash and accrual accounting methods. The new corporation makes
this selection on its first federal income tax return and
its first California franchise tax return. The method chosen
should be employed both in keeping the corporation's books
and computing income.
21. S Corporation Election
S Corporation status allows the shareholders of certain small
business corporations to be taxed more or less as if their
business were operated as partnership, with "flow through"
tax treatment of income or losses to the shareholders.
A small business corporation may elect S Corporation
status by meeting certain requirements and filing Form 2553
with the I.R.S. The filing must be made by the 15th day of
the third month of the taxable year. In general, all persons
who are shareholders on or before the day of the election
for the tax year in which the election is made must consent
in a signed statement to the election. While the election
is effective, the corporation must file an annual return on
Form 1120-S.
To be eligible for S Corporation status, a corporation
must meet a number of requirements. Among these are (a) that
the corporation has no more than 75 shareholders, all of whom
are individuals (none of whom can be nonresident aliens),
estates, certain types of trusts, qualified pension, profit-sharing
and stock-bonus plans, and charitable organizations, (b) the
corporation has only one class of stock, and (c) the corporation
is not a member of an affiliated group. An S Corporation must
follow prescribed procedures if it wishes to discontinue its
S Corporation status.
California also recognizes S Corporation status.
However, California law imposes a 1.5% corporate-level tax
on S Corporations. Corporations electing S Corporation status
under federal law will be taxable as S Corporations in California
unless they elect not to be so treated. Shareholders of S
Corporations who are not California residents must file a
statement consenting to be taxed on their share of the corporation's
income derived in California.
A decision to elect S Corporation status should
be made in consultation with the corporation's tax advisors.
22. Employee Benefit Plans
Federal law allows a corporation to establish a variety of
tax-favored employee benefit plans. A corporation may establish
stock bonus, pension, and profit sharing plans, which allow
a corporation an immediate deduction but defer income recognition
for the employee. For example, Section 401(k) plans may be
established relatively inexpensively by even small corporations.
Medical and dental plans, including "cafeteria"
plans, may be provided for employees and their dependents,
allowing the corporation to deduct the expense without taxable
income to the employee. Certain formalities will need to be
followed and tailored documents prepared. In addition, state
tax consequences should be reviewed.
23. California Sales and
Use Tax
California has complementary sales tax and use tax regimes.
If a corporation is engaged in the retail sale of tangible
personal property within California, it is required to pay
sales tax to the state. Typically, the seller will seek reimbursement
of the sales tax from the purchaser, however, the incidence
of the sales tax is on the seller; therefore, absent a contractual
obligation by the purchaser to reimburse the seller for the
sales tax, the purchaser is not liable for the sales tax.
The use tax is applied to sales transactions occurring outside
the state and in which the property will be stored, used,
or consumed within the state. The use tax is the liability
of the user; however, the seller in certain circumstances
is obligated to collect the use tax and remit it to the state.
Leases of personal property are generally subject to the state
sales and use taxes.
Corporations expecting to sell tangible personal
property, which would be subject to the California Sales and
Use Tax when sold at retail, must obtain a seller's permit
from the State Board of Equalization. This is done by submitting
the prescribed application to the Board, signed by an officer
or any other authorized person, certifying that the applicant
corporation will be actively engaging in business as a retail
seller. A separate permit is necessary for each place of business
the corporation operates. Corporations selling tangible personal
property outside the state for use, consumption, or storage
within the state also must register with the Board.
The State Board of Equalization generally requires
a permit holder to file a return and pay the sale and use
tax on a quarterly basis. Prepayments are required in some
cases.
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24. Other Miscellaneous Taxes
California requires payment of a tax on certain personal property
owned or possessed on March 1 of each year. If a corporation
owns taxable personal property with a combined worth of $30,000
or more, the corporation must file a property statement, signed
by an officer of the corporation or an authorized agent, in
the county where the property is located. The statement should
be filed in the county assessor's office, generally between
April 1 and the last business day of May of that same year.
A lien attaches to the property subject to the tax on March
1, however, payment is not delinquent until August 31 at 5:00
p.m. (for personal property taxes that are not secured by
real property) or December 10 at 5:00 p.m. (for personal property
taxes that are secured by real property). All counties may
authorize semi-annual installment payments of the tax.
Many cities also impose a gross receipts tax
on corporations conducting business in that city. Counties
and cities may also impose other special taxes. It would be
advisable for the corporation to contact the county and/or
city assessor to determine if it is subject to any of these
taxes.
The corporation should also be cognizant of the
federal and state requirements regarding funding of unemployment
benefits. The accountant for the corporation should be consulted
to ensure that all appropriate filings and payments are timely
made.
25. California Workers' Compensation
Almost every California employer is subject to the California
Workers' Compensation laws. The laws subject an employer to
liability for industrial accidents, regardless of the employer's
negligence, while at the same time precluding employee lawsuits
that might result in large damage awards. However, in certain
narrow situations, the employer may also be liable for damages
in a civil suit. The laws provide a schedule of benefits to
be paid to the disabled employee for injuries or, if the employee
is killed, to the employee's dependents or heirs. The corporation
should obtain sufficient workers' compensation liability insurance
from an authorized private carrier of workers' compensation
insurance or from the local office of the State Compensation
Insurance Fund. A corporation may also choose to self-insure.
This procedure may be accomplished by obtaining a certificate
of consent to self-insure from the State Director of Industrial
Relations who certifies the corporation's ability to pay any
compensation that may be found due an employee. Should the
corporation fail to follow the Workers' Compensation laws,
it will be subject to penalties and legal action by the injured
employee or the employee's dependents.
This Article provides general information only.
For more information regarding this subject, please contact
George Cabot [(925) 937-3600 or e-mail gcabot@mmblaw.com of
our business and tax group.
This article is produced and copyrighted by Morgan,
Miller & Blair. Any use or reproduction of the article
or its contents without Morgan, Miller & Blair's prior
express written consent is strictly prohibited. This published
material constitutes neither legal advice nor exhaustive legal
study. Applicability to any particular situation is dependent
on a fact-by-fact analysis.
© 2000 Morgan, Miller & Blair. All Rights
Reserved.
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