When do I need to register a company?

Often entrepreneurs start working on a business idea/product/service and postpone registering a company until they know that their business concept is a valid one. At a certain point, however, entrepreneurs will need to incorporate. How do they know when is the right time?

·        More than one person is involved. If several people are working on a business as partners their agreements and understandings are better be put in writing. Moreover, the law views such relationship as a general partnership by default and imposes certain regulations, which may come as a surprise to the parties. One of the most drastic ones is that each partner is fully personally liable not only for his own actions, but for the actions of his partners as well.

·        Intellectual property is being created. If there is more than one partner, it is important to assign all IP to the company. The law states that IP belongs to its creator automatically upon creation. If there are no agreements in writing and a person leaves unregistered business arrangement, he can take all IP developed by him and if something was developed in cooperation with others, it may be problematic to use it without a written consent of everyone involved.

·        Hiring employees. Employer-employee relationships are governed on both state and federal level. If there is an issue, it is undoubtedly better if a claim is brought against a company, not an entrepreneur individually.

·        Issuing stock options. Many entrepreneurs working on the initial development of business do not have spare funds, but need professional help. For this reason equity compensation became so popular in the world of startups. Although it is possible to enter into some pre-incorporation written agreements, it is easier and more straightforward to already have something to be granted instead of making unsupported promises.

·        Launching a service / product. Here the issue of personal liability emerges. A properly registered company is considered a separate business entity. If there are any claims, they are brought against the company, not its owners individually, and the company’s assets are at stake, personal assets of its owners are protected from the creditors.

·        Starting capital gains holding period. If a founder sells stock at a profit, which he held for more than one year, his income will be taxed at the rate of long-term capital gains, which is much lower than tax rate for ordinary income (15% for people with annual income below $400K and 20% on the income higher than $400K/a year). Nowadays exits events happen pretty quickly. An entrepreneur may develop an app, online platform, product or service and sell it to a bigger company. If he registered a company not long before his stock is sold, all income he receives will be taxed as his ordinary income at the rate depending on his tax bracket. Considering the said, it makes sense to incorporate at the earliest stages of development.

·        Looking for investments. Investors invest in the companies and usually receive stock in the company in exchange of their investments. They do not give money to individuals for many objective reasons, the most obvious one being that we all mortal. It is not an easy task to find an investor and then to convince him to invest. Gone are the days when money was given to a group of people working from a garage. Nowadays investors want to see how serious entrepreneurs are about their business. Not to mention that investors may not wait until an entrepreneur will go through all legal formalities to register a company. There are always many lucrative projects on the market and other players may be quicker and more accommodating.

 

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