Corporate Structure Overview

Corporate Structure Overview

Please note:
All text taken from NebFacts found on the University of Nebraska, Lincoln website.

Your need for legal and tax advice: While the information contained in this document is thought to be accurate, it should not be used as a substitute for legal advice on matters related to business organization, taxation, estate planning, or other business and financial management matters. Consult with your legal and tax advisers before making decisions

Sole Proprietorship
The Partnership
The "S" Corporation
The "C" Corporation
The Limited Liability Company

Sole Proprietorship

The sole proprietorship is a popular and frequently used form of business organization. When your business is organized as a single proprietorship, the business entity and your other affairs (personal and business) are merged together. As the proprietor, you own and control the business. From the standpoint of nearly all legal rights and responsibilities, your sole proprietorship business and you, as the proprietor, are considered to be one and the same.

When a business is owned and operated by a wife and husband, it often is not clear whether the operation is a sole proprietorship or a partnership. Under some conditions, the distinction between a sole proprietorship and a partnership can be very important. If you have a sole proprietorship owned and operated by you and your spouse, ask your attorney to clearly identify the legal implications of the linkage between your personal and business affairs. Your attorney also can describe actions you can take to ensure that you have whatever liability protection is possible in your circumstances.

In a business organized as a sole proprietorship, the owner directs business activities and may supply all management and labor utilized by the business. However, employees can supply either or both without altering the nature of the sole proprietorship. All proprietorship debt is payable by the proprietor (proprietor's family unit), and lenders customarily require signatures on debt agreements by both the proprietor and spouse (if any). All profits accrue to, and all losses are borne by, the proprietor (the family).

For business and financial management purposes, it is best to maintain completely separate records for the business unit and the family or household. To ensure you have documentation needed for income tax reporting purposes, it's best to use separate bank accounts and separate credit arrangements for your business and your family affairs.

If credit is used in your business operations, it's particularly important to maintain the separation of finances and records for your business unit and your household. Interest payments on personal debt are not a deductible expense for federal and state income tax purposes while interest payments on business borrowing are fully deductible. When business and household costs are incurred jointly (for example: utility costs when you have a home-based business that's not separately metered, telephone bills when the telephone is used for personal and business calls, and travel using a personal auto for business purposes), allocate the respective portions to the business unit and the household. Then pay the business and personal amounts from the respective bank accounts. A relatively small investment of effort in bill paying and record keeping can ensure you have the data needed for filing and substantiating your income tax returns.

Advantages of sole proprietorship:

In large part, the popularity of the sole proprietorship results from its simplicity and flexibility. A sole proprietorship can be established, modified, bought, sold, or terminated very quickly. No business planning or organizational arrangements (bylaws, organizational charter, etc.) are required when a sole proprietorship is established; an approach that often works to the proprietor's detriment. Other than routine permits and licenses required for your business activities, neither public notification or legal assistance is required to start, terminate, redirect, or modify the business. The proprietor can decide to start a business and almost immediately can say, "I'm open for business and I'm my own boss."

The size or complexity of the business unit can be changed as the proprietor desires whenever there is financial capacity to do so. Children can be involved in both business and family activities as determined by their age, interests, abilities, and parents' wishes. Depending on personalities and interests, the involvement of family members in the business is relatively unrestricted.

Limitations of sole proprietorship:

The sole proprietorship has a number of limitations. Many result from the lack of a separate business entity. Even though there are many financial management and tax reasons not to do so, mingling of business and household finances and operating with a resource base that's primarily the family's net worth occurs in many sole proprietorships. The resulting limitations include:

• everything the proprietor and family own is at risk in both personal and business activities unless non businessassets are protected in a trust or other isolating mechanism;

• the resource base of the business unit may be so limited that credit availability and capacity to respond to business opportunities is moderately to severely restricted;

• the business ends with the death of the proprietor and, if business activity is to continue, a new business must be established by the survivors;

• unless succession is carefully planned, each generation must purchase or inherit the business assets paying any applicable taxes and costs;

• mixing business and household finances can make it difficult to measure business financial performance and profitability, and may lead to loss of equity that is not recognized until the business is in serious financial difficulty;

• conflicts or disagreements within the family can immobilize the business unit and prevent needed decision making.

Tax implications - general:

All real property and personal property is taxable to the extent set by Nebraska law. Proprietor income is treated as individual income, is fully subject to state and federal income tax and, as applicable, to self-employment tax. Sales of capital items at prices above the un recoveredtax basis generate taxable income and state and federal income tax liabilities. (Currently, the capital gains tax rate for federal income tax purposes cannot exceed 28 percent, and 30 percent of the cost of health insurance premiums for self-employed persons is deductible when calculating federal adjusted gross income.)

Wages paid to employees are subject to payroll taxes in the same manner as is the case for employees in any other type of economic activity. Currently, wages paid by a sole proprietor to his or her children under age 18 are not subject to payroll taxes. In most cases a Federal Tax Identification Number should be secured and used on federal tax returns and reports.

Tax-reducing opportunities typical of small businesses can be used where applicable. Examples include: write-off of the business portion of the costs of vehicle ownership for vehicles used for both business and personal use, deductibility of business travel costs, and direct reporting of other business expenses on Schedule C of Form 1040.

Unless done very carefully, sale of part or all of the proprietor's ownership interests is likely to generate relatively large tax liabilities.

Gift tax and estate tax implications:

All aspects of the gift tax, estate tax, and inheritance tax are the same as those applicable to any individual. Gifting of tangible assets to utilize the nontaxable gift allowance of up to $10,000 (up to $20,000 for a joint gift by husband and wife) per recipient per year can be very difficult as assets with the correct value usually are difficult to identify. If such assets can be identified, gifting may be infeasible if these assets are important to the continued viability of the business.

Estate planning can provide a plan for minimizing the legal and tax costs of orderly transfer of your business and personal assets to successors. While everyone needs to have an estate plan in place, it's particularly important to do so if your equity in personal and business assets is greater than $600,000. Be sure to rely on the recommendations of your legal and tax advisers when completing your estate planning activities.

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The Partnership

The partnership is a popular and useful form of business organization. A partnership is an association of two or more persons formed to carry on a business for profit. As such, it is a special form of business entity separate from the individuals (partners) and is owned by two or more persons each of whom has a specified ownership interest. There are two forms of partnership: the General Partnership and the Limited Partnership - information on selected characteristics of these two forms of partnership is provided in this document. Consult your attorney for complete information on the suitability to your situation of either of these forms of partnership.

Most business partnerships are organized as general partnerships. In many, the partners are related by blood or by marriage. All partnerships should be based on a written partnership agreement. While many partnership agreements are informal (not compiled in written form), the lack of a written agreement can result in extremely damaging conflicts between partners when a disagreement arises.

With very limited exceptions, a partnership is not an income tax paying entity. All profits and losses pass through to the partners' individual tax returns in proportion to their respective ownership interests. Unless continuity of the partnership is provided for in the partnership agreement, a partnership is dissolved upon the death or withdrawal of one of the partners. Unless the partnership debt to asset ratio is very low, borrowing usually requires loan documentation signed by all partners and their respective spouses (if any).

No public notice of the partnership agreement is required at the time of formation of a general partnership - public notice may be required if a partner subsequently is added to the partnership. Public notice of the formation of a limited partnership must be given through registration with the Corporation Division of the Secretary of State's office.

Advantages of a partnership:

Principal reasons for the popularity of partnerships include:

• Partnerships are an easy way of assembling enough financial and physical resources to make it possible to establish or continue a business.

• Unless the partnership agreement contains restrictive provisions that prevent doing so, partners in a general partnership can specialize in aspects of management and operations that capitalize on their skills and interests.

• Only the general partner of a limited partnership can participate in management making possible the limitation of liability for the limited partners.

• When all partners sign debt instruments, the borrowing capacity of a partnership may be greater than the total borrowing capacity of the partners as individuals.

• For any given level of complexity and size of operation, the cost of establishing a partnership is relatively low and record keeping needs are relatively easily satisfied.

• Record-keeping and income tax filing requirements are only slightly more onerous than for individuals.

• Opportunities for family members to work together in starting or operating a business are relatively unlimited.

Limitations of a partnership:

Partnerships have a number of limitations with important implications for the partners and members of their families. These include, but are not restricted to:

• In a general partnership all assets of each partner are at risk while in a limited partnership, all assets of the general partner are at risk and capital invested by the limited partners is at risk.

• Any partner in a general partnership and the general partner of a limited partnership can enter into contracts and incur obligations that are binding on all partners.

• Unless the partnership agreement contains specific provisions authorizing continuation, a general partnership ends upon the death of any partner - usually resulting in disruption of ongoing business arrangements.

• Any general partner can require dissolution of the partnership at any time.

• Partners holding a minority interest can be alienated if general partners holding a majority of the ownership interest consistently vote as a block and the interests of minority partners are ignored.

• Unless succession is carefully planned, each generation must purchase or inherit the interests of each partner - subject to associated estate and inheritance tax costs.

• Division of management responsibility among the partners can result in no one having an overall understanding of the financial standing of the partnership.

• For a number of social and economic reasons, it may be difficult to enter an existing partnership.

• It may be very difficult to get out of a partnership without undue financial loss and/or interpersonal conflict with the other partners.

• Conflicts or disagreements among the partners can immobilize business decision making causing loss of productivity and profitability.

A carefully drafted partnership agreement can reduce or avoid many of these limitations. However, a partnership agreement cannot alter the financial responsibilities that accompany being a general partner or a limited partner as they are defined by statutes and court decisions.

Tax implications - general:

All real and personal property held by a partnership is taxable to the extent set by Nebraska law. Partnership income or loss, including capital gains, pass through to the partners in proportion to their respective partnership interests and is taxed as income to the receiving individuals. Partnership income is subject to state and federal income tax and, as applicable, to self-employment tax. Cash wages paid to partnership employees are subject to payroll taxes in the same manner as is the case for employees in any other type of economic activity.

Partners may have taxable gains if they move assets into the partnership and the partnership a) apportions to them a partnership interest greater than the tax basis of the assets, or b) the partnership assumes responsibility for previous debt payable on the assets. Partners also may incur taxable gains on distributions from the partnership if the distribution of assets and liabilities is not in the same proportions as the respective partnership interests. Tax reducing opportunities typical of those afforded to sole proprietorships are available. Unless carefully done, liquidation of partnership interests may result in large tax liabilities as tax implications for general partners are very nearly the same as for sole proprietors. The transfer of a partial partnership interest to another person must be approved by the other partners, and may be a taxable transaction if the value of the interest transferred exceeds the tax-free gift amount.

Gift tax and estate tax implications:

All aspects of the gift tax, estate tax, and inheritance tax are the same as those applicable to any individual. Gifting of tangible assets outside the partnership as a means of utilizing the nontaxable gift allowance of up to $10,000 per recipient per year (up to $20,000 for a joint gift by husband and wife) can be very difficult as assets with the correct value often are difficult to identify. Gifting may be feasible only if the prospective donor has financial ability to make such gifts without reducing partnership involvement and without disrupting outside-the-partnership business activities and personal life.

If all partners agree, or if authorized by the partnership agreement, gifting fractional partnership interests in annual amounts less than the tax-free limits may be advantageous. The gift of a partnership interest may be made very simply by noting the transfer in the partnership interest account. Thus, partnerships may be a convenient way to transfer property ownership from one generation to the next in a way similar to the transfer of corporate stock.

Estate planning can provide a plan for minimizing the legal and tax costs of orderly transfer of business and personal assets to successors. If you are considering gifting or other partnership interest transfers be certain to secure and follow the recommendations of your legal and tax advisers when planning and implementing the gift or transfer.

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The "S" Corporation

An "S Corporation" is a corporation that elects to be taxed under Subchapter S of the Internal Revenue Code (enacted in 1958 and periodically amended) and receives IRS approval of its request for Subchapter S status. As a legal entity (an artificial person), the S corporation is separate and distinct from the corporation's owners (the stockholders). Under Nebraska incorporation law, there is no distinction between a C corporation and an S corporation. However, the two type of corporate entities are subject to differing federal and state tax treatment.

Eligibility for S corporation tax status is based on compliance with IRS regulations regarding the number and characteristics of stockholders, type of stock issued, and other characteristics specified in the regulations. Principal characteristics of S corporation taxation are briefly discussed in this document.

An S corporation can issue only one class of stock. Prior to January 1, 1997, an S corporation can have no more than 35 stockholders. In tax years beginning after December 31, 1996, the maximum number of eligible stockholders is increased from 35 to 75. Nonresident aliens, self-directed IRAs, some types of corporations, partnerships, and some types of trustees presently cannot hold stock in an S corporation and will continue to be ineligible after December 31, 1996. However, in tax years beginning after that date, a qualified retirement plan trust or a 501(c)(3) charitable corporation may be S corporation stockholder. Other restrictions on stockholder eligibility apply under some circumstances. Your attorney can determine whether any of these restrictions apply in your situation.

After December 31, 1996 a testamentary trust can hold S corporation stock for up to two years from the date of the grantor's death. (Prior to January 1, 1997, the holding period is 60 days.) Generally, this change will make it easier to settle an estate where a testamentary trust is established and receives S corporation stock in the estate settlement process. Consult your attorney for advice and guidance on applications of this longer holding period to the administration of any testamentary trust that receives S corporation stock

As a separate legal entity, the corporation finances and records are established and maintained completely separate and distinct from the finances and records of the stockholders. Through a resolution adopted at a stockholders meeting held in accordance with the bylaws of the corporation, one or more officers or employees of the corporation are authorized to conduct business on behalf of the corporation. The resolution typically includes an authorization with specified limits to borrow and repay funds as needed for business operations. Credit arrangements are made in the name of the corporation with loan documents signed by the authorized person or persons after the lender has received a certified copy of the authorizing resolution. If the corporation is newly formed, small (has few assets), or has a limited record of credit use, it's likely that a lender will require personal guarantees by one or more officers or stockholders before approving a credit application received from the corporation. If personal guarantees are given, the signer(s) usually have unlimited liability for the debts of the corporation.

The Corporate Charter includes information on the purpose(s) for which the corporation is organized and the life of the corporation. (A corporation often has perpetual life.) Bylaws of the Corporation are the "rules" for conducting the organizational life of the corporation.

Moderate legal costs are incurred in setting up a typical S corporation and annual costs are incurred for stockholders meetings, tax return preparations, and preparing other yearly reports and summaries as needed for management and as desired by stockholders. Public notice of the formation and continued operation of a corporation is required and is accomplished through filings with the Secretary of State's Office.

Advantages of the S Corporation:

Creation of the corporate shield that, in the absence of personal guarantees, limits the liability of stockholders to their capital investment in the corporation and the usefulness for estate planning purposes of the corporate form of business organization are frequently cited advantages of forming an S corporation. Other advantages include:

• The independent life of the corporation makes possible its continuation, and the relatively undisturbed continued operation of the business regardless of incapacity or death of one or more stockholders.

• Fractional ownership shares are easily accommodated in the initial offering of stock.

• The purchase, sale, and gifting of stock make it possible to have changes in ownership without disturbing the corporation's ability to conduct business.

• The requirement that the corporation's finances and records be separate from the finances and records of stockholders reduces the risk of unrecognized equity liquidations.

• With only a few exceptions, under the Subchapter S election for taxation as a partnership the S corporation pays no income taxes and corporation income or loss is passed through direct to the stockholders.

• To the extent the corporate shield is maintained and other investments and savings of the stockholders are not at risk, the personal life of stockholders is simplified.

• The annual meetings of stockholders and consultations with legal counsel can provide stimulus for improved communication within the stockholder group (often a family group) and can provide more comprehensive guidance for management.

• Depending on the corporation's business record and the policies and practices of prospective lenders, access to credit and the ability to secure needed resources may be improved.

• Earnings representing "return on investment" (interest, rental payments, etc.) are not subject to self-employment tax as long as stockholder-employees receive adequate compensation for labor and management of the business.

Limitations of the S Corporation:

As a corporate entity entitled to taxation as a partnership, some limitations have been placed on who can be a stockholder of an S corporation. Consult your legal adviser regarding the possibility that these restrictions may apply in your situation. (See "Your need for legal and tax advice.")

Other limitations of the S corporation include:

• Lenders may require personal guarantees from corporate officers as a condition of supplying credit, thus negating the limitation of liability.

• Conflicts or disagreements among the stockholders (usually a small group of persons) may immobilize decision making.

• Restrictions on the sale of stock and/or buy-back agreements included in the bylaws may prevent minority stockholders from being able to recover the value of their investment in the corporation.

• Through the processes of gifting and inheritance, stock ownership can become divided among many persons who are not active in the business and they may become a voting block that does not support needs and decisions believed desirable by managing stockholders.

• Over time, corporation paid benefits for stockholder-employees may become costly and exceed the ability of the business to pay.

• Employment benefits such as life insurance, health insurance, and housing costs are taxable income to stockholder employees with 2 percent or more stock ownership and to employees who are directly related to persons owning 2 percent or more of the corporation stock.

• If appreciated assets are owned by the corporation and the corporation is dissolved, significant income taxes on the appreciation amount will be generated.

The corporate shield of limited liability may be lost:

• When corporate formalities are not followed - that is, when director and shareholder meetings are not held and minutes of such meetings are not kept.

• When corporate assets are treated as personal assets - for example, when a corporate vehicle is used for family vacation and the corporation is not reimbursed for the non businessuse.

When limited liability is lost, shareholders become personally liable for any corporate legal or financial obligations. In addition, if corporate income tax returns are audited, failure to observe corporate formalities or treating corporate assets as personal assets can result in loss of corporate income tax deductions and levying of penalties and interest on taxes assessed for previous years.

Tax implications - general:

All real and personal property held by an S corporation is taxable to the extent set by Nebraska law. Corporate income or loss, including capital gains, pass through to the stockholders, and is treated as income to the receiving individuals. In the same manner as partnership income, S corporation income passed through to stockholders is subject to state and federal income tax, but is not subject to self-employment tax when employee-stockholders receive adequate compensation (salaries) for their labor and management input to the business. Pay of corporation employees (salaries) are subject to payroll taxes in the same manner as is the case for employees in any other type of economic activity.

Assets of the corporation generally are retrieved to individual ownership only through transactions that generate taxable income. Sale of stock establishes the market price as the purchaser's tax basis for the stock, but does not increase the tax basis of assets of the corporation. Death of a shareholder may result in a "step-up" of the tax basis of his or her corporation stock, but does not increase the tax basis of assets held by the corporation.

If the corporation is dissolved when it owns assets that have appreciated in value (usually land, buildings, and/or equipment), federal income tax will be due on the asset appreciation amount even though the assets have not been sold. For this reason, many management advisers and estate planners recommend holding title to land in an entity separate from the corporation, - for example, in individual ownership or in ownership by a limited liability company. When this is done, the corporation rents the land from the individual or non corporateentity. Generally, this approach is useful only when the value of fixed assets is relatively large or there is good reason to believe they will experience significant appreciation in value.

Gift tax and estate tax implications:

All aspects of the gift tax, estate tax, and inheritance tax apply to the receipt of corporate stock by gift or inheritance. Tax amounts are calculated on the value of the stock included in the gift or inheritance. Gifting of stock to utilize the nontaxable gift allowance of up to $10,000 per recipient per year (up to $20,000 for joint gifts by husband and wife) can be easily accomplished. Estate planning can provide a plan for minimizing the legal and tax costs of orderly transfer of corporate stock and/or non corporatebusiness or personal assets to successors. If you are considering gifting or other transfers of stock or other assets, be certain to secure and follow the recommendations of your legal and tax advisers when planning and implementing the gift or transfer.

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The "C" Corporation

A "C Corporation" is taxed under Subchapter C of the Internal Revenue Code. As a legal entity (an artificial person), the C corporation is separate and distinct from the stockholders - the owners of the corporation. Under Nebraska incorporation law, there is no distinction between a C corporation and an S corporation. However, the two types of corporate entities are subject to differing federal and state tax treatment. Principal aspects of C corporation taxation are summarized in this document.

As a tax-paying entity, the C corporation must pay taxes on its taxable income prior to making dividend distributions to stockholders. It is allowed to issue more than one type of stock and can have any number of stockholders.

As a separate legal entity, the corporation's finances and records are established and maintained completely separate and distinct from the finances and records of the stockholders. Through a resolution adopted at a stockholders meeting held in accordance with the bylaws of the corporation, one or more officers or employees of the corporation are authorized to conduct business on behalf of the corporation. The resolution typically includes an authorization within specified limits to borrow and repay funds as needed for business operations. Credit arrangements are made in the name of the corporation with loan document signatures by the authorized person or persons after the lender has received a certified copy of the authorizing resolution. If the corporation is newly formed, small (has few assets), or has a limited record of credit use, it's likely that a lender will require personal guarantees by one or more officers or stockholders before approving a credit application from the corporation. If personal guarantees are given, the signer(s) usually have unlimited liability for the debts of the corporation.

The Corporate Charter includes information on the purpose(s) for which the corporation is organized and the life of the corporation. (A corporation often has perpetual life.) Bylaws of the Corporation are the "rules" for conducting the organizational life of the corporation.

Moderate legal costs are incurred in setting up a C corporation, and annual costs are incurred for stockholders meetings, tax return preparations, and preparing other yearly reports and summaries as needed for management and desired by stockholders. Public notice of the formation and continued operation of a corporation is required and is accomplished through filings with the Secretary of State's Office.

Advantages of the C Corporation:

Creation of the corporate shield that, in the absence of personal guarantees, limits the liability of stockholders to their capital investment in the corporation and the usefulness for estate planning purposes of the corporate form of business organization are frequently cited advantages of forming a C corporation. Other advantages include:

• The perpetual life of the corporation makes possible its continuation, and the relatively undisturbed continued operation of your business, despite the incapacity or death of one or more stockholders.

• Fractional ownership interests are easily accommodated in the initial offering of stock.

• The purchase, sale, and gifting of stock make possible changes in ownership without disturbing the corporation's ability to conduct business.

• The required separation of finances and records for the corporation reduces the risk of unrecognized equity liquidations.

• To the extent the corporate shield is maintained and other investments and savings of the stockholders are not at risk, the personal life of stockholders is simplified.

• The annual meetings of stockholders and consultations with legal counsel can provide stimulus for improved communication with the stockholder group (usually a family group) and can provide more comprehensive guidance for management.

• Life insurance up to $50,000 per person, health insurance, housing costs, and other benefits for employees (including stockholder-employees) can be a tax-deductible expense for the corporation.

Limitations of the C Corporation:

Double taxation of corporate net income distributed to stockholders in the form of dividends is the most frequently cited disadvantage of the C corporation. As a corporate entity, C corporations must pay income tax on their net income prior to any distribution of dividends to stockholders, and the dividends are taxable to the stockholders resulting in double taxation of corporation income distributed to the stockholders. However, the effects of this limitation can be reduced when the stockholders are corporation employees and derive most of their income from salaries and wages paid by the corporation.

Other limitations of the C corporation include:

• Lenders may require personal guarantees from corporate officers as a condition of supplying credit, thus negating the limitation of liability.

• Conflicts or disagreements among the usually small group of stockholders in a small scale entrepreneurship corporation may immobilize decision making.

• Restrictions on the sale of stock and/or buy-back agreements included in the bylaws may prevent minority stockholders from being able to recover the value of their investment in the corporation.

• Through the processes of gifting and inheritance, stock ownership can become divided among many persons who are not participants in operations of the business, and that can result in their becoming a voting block that does not support needs and decisions believed desirable by managing stockholders.

• Over time, corporation paid benefits for stockholder-employees may become costly and exceed the ability of the business to pay.

• If appreciated assets are owned by the corporation and the corporation is dissolved, significant income taxes on the appreciation amount will be generated.

The corporate shield of limited liability may be lost:

• When corporate formalities are not followed - that is, when director and shareholder meetings are not held and minutes of such meetings are not kept.

• When corporate assets are treated as personal assets - for example, when a corporate vehicle is used for family vacation and the corporation is not reimbursed for the non businessuse.

When limited liability is lost, shareholders become personally liable for any corporate legal or financial obligations. In addition, if corporate income tax returns are audited, failure to observe corporate formalities or treating corporate assets as personal assets can result in loss of corporate income tax deductions and levying of penalties and interest on taxes assessed for previous years.

Tax implications - general:

All real and personal property held by a C corporation is taxable to the extent set by Nebraska law. C corporations pay income tax at rates that, depending on their level of taxable income, can be more or less that the income tax rates of single or married stockholders with comparable levels of taxable income. If you are considering forming a C corporation, secure current information on the relevant tax rates and compare estimated tax costs with and without incorporation before deciding to incorporate your business.

Pay of corporation employees is subject to payroll taxes in the same manner as is the case for employees in any other type of economic activity. Assets of the corporation generally are retrieved to individual ownership only through transactions that generate taxable income. Sale of stock establishes the market price as the purchaser's tax basis for the stock, but does not increase the tax basis of assets of the corporation. Death of a shareholder may result in a "step-up" of the tax basis of his or her corporation stock, but does not increase the tax basis of assets held by the corporation.

If the corporation is dissolved when it owns assets that have appreciated in value (usually land, buildings, and/or equipment), federal income tax will be due on the asset appreciation amount even when the assets are not sold. For this reason, many management advisers and estate planners recommend holding title to fixed assets in an entity separate from the corporation - for example, in individual ownership or in ownership by a limited liability company. When this is done, the corporation rents the fixed assets from the individual or non corporateentity. Generally, this approach is useful only when the value of fixed assets is relatively large or there is good reason to believe they will experience significant appreciation in value.

Gift tax and estate tax implications:

All aspects of the gift tax, estate tax, and inheritance tax apply to the receipt of corporate stock by gift or inheritance. Tax amounts are calculated on the value of the stock included in the gift or inheritance. Gifting of stock to utilize the nontaxable gift allowance of up to $10,000 per recipient per year (up to $20,000 for joint gifts by husband and wife) can be easily accomplished. Estate planning can provide a plan for minimizing the legal and tax costs of orderly transfer of corporate stock and/or non corporatebusiness or personal assets to successors. If you are considering gifting or other transfers of stock or other assets, be certain to secure and follow the recommendations of your legal and tax advisers when planning and implementing the gift or transfer.

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The Limited Liability Company

The limited liability company (LLC) is a legal entity separate and distinct from the personal affairs and other business involvements of its owners (called "members"). A LLC has some characteristics similar to those of a limited partnership, some corporation-like characteristics, and still other characteristics unique to the LLC form of business organization.

In some states, limited liability companies have been authorized for several decades. Nebraska's LLC authorization was first enacted in 1993 and amended in 1994 to authorize formation of family farm limited liability companies. Further changes in the authorizing statutes were enacted in 1997 in LB 44 and LB 361. With the LB 361 modifications, the formation of a LLC has been simplified, LLC taxation has been made consistent with the IRS regulations released in late 1996, and the legal standing of a LLC in Nebraska was made comparable to that of LLC'sin other states. Under LB 44, the Secretary of State upon request is authorized to reserve and protect a business name for a limited liability company.

One or more persons may organize a LLC by preparing and filing duplicate copies of articles of organization with the Nebraska Secretary of State. The articles must provide a comprehensive description of the LLC's name, the purpose for which it is organized, its principal place of business and registered agent, the cash and property to be invested in it, rights and requirements for admitting additional members, and the identity and addresses of managers. The articles also may identify (a) the LLC's life span unless a shorter period is specified, the life span is perpetual; and (b) any other provisions not inconsistent with the statutes and desired by the members. Upon issuance of a certificate of organization by the Secretary of State, the LLC can commence business activities unless a delayed effective date is specified in the articles of organization.

A LLC may be dissolved when: (a) a life span specified in the articles of organization expires, (b) the members unanimously agree in writing that it should be dissolved, (c) any other dissolution cause specified in the articles of organization becomes a reality, or (d) a court rules that the LLC should be dissolved. Operating procedures for the LLC are set forth in its articles of organization, or in its regulations (similar to the bylaws of a corporation), or in its operating agreement (similar to a partnership agreement). LLC management can be vested in a member or members, or in a manager or managing entity with no ownership interest. With the exception of liabilities for unpaid taxes, members and managers of a LLC are not liable for LLC debt, liabilities, or other obligation including a judgment or decree. Thus, they are protected from general liability though their investments in the LLC, if any, are at risk. This limitation of liability can be nullified if members give personal guarantees for the LLC.

An ownership interest in a LLC is part of a member's personal estate and can be transferred or assigned according to procedures specified in the articles of organization or in the operating agreement. If neither the articles of organization nor the operating agreement specifies the procedures for an ownership interest transfer, a transfer to a non-member of the LLC must be approved in writing by members other than the transferor who hold a majority in interest. If written consent by a majority in interest is not forthcoming, but a transfer of ownership interest occurs, the ownership interest can be held by a person who is not a member. When this happens, the recipient of the ownership interest has no right to participate in management, but does have the right to share in profits or other compensation and in the return of capital.

As a separate legal entity, LLC finances and records are established and maintained independently of the members' personal financial arrangements and other business involvements. As is typical of similar legal entities, this separation of finances and records makes it easier to prepare reliable financial analyses of the business unit.

If you are considering organizing a LLC that will own and operate part or all of your business activities, you should secure both legal and tax advice specific to your circumstances, the outcomes you want to attain, and the actions you are considering. Do not make decisions without receiving skilled professional advice.

Potential Advantages of a LLC:

The LLC provides its owners (the members) with a very flexible and adaptable form of business organization that provides liability protection comparable to the protection provided by incorporation of a business unit. Unless personal guarantees have been given, a member's liability is limited to the amount invested in the LLC, though as indicated above, the manager(s) and/or member(s) have full liability for unpaid taxes.

A LLC can be established at moderate cost in a relatively short time. Management by all members, by one or more members, or by a non-member individual or business entity is allowed. (The management arrangements are specified in the articles of organization.) Ownership interests can be transferred using procedures described in the articles of organization or operating agreement, or by consent of a majority in interest. Thus, the members have a high level of flexibility in setting up or modifying business arrangements.

Possible Limitations of a LLC:

While some other states have extensive experience with LLC's the track record of LLC'sin Nebraska is limited. At this time, it appears that limited experience of individuals and professional advisers with the realities of organizing, operating, transferring, dissolving, and defending LLC'smay be the most important single concern about this form of business organization. Some lenders have had limited experience with lending to LLC's and may be reluctant lending commitments. It may be more difficult to correctly anticipate ownership and management issues that arise during LLC operations, and to develop useful outcomes to those issues. However, experience is accumulating rapidly, and Nebraska's authorizing statutes now are very similar to those in other states with considerably more experience. Thus, it appears that if the LLC form of business organization is suitable for the business activity under consideration, it can be used with confidence by interested persons.

As is the situation with all multi-owner entities, the suitability and viability of a LLC almost certainly will be closely linked to the ability of members to work together without conflict to attain desired outcomes.

Tax Implications - general:

All real and personal property held by a LLC is taxable to the extent set by Nebraska law. Cash wages paid to LLC employees are subject to payroll taxes in the same manner as for employees of any other type of business entity.

Under the simplified regulations released in late 1996, the federal income tax filing status of a LLC is determined by an election made when the income tax return is filed. Unless the LLC elects to be taxed as a corporation, a single-member LLC is taxed as a sole proprietorship and a multiple-member LLC is taxed as a partnership. A LLC owned by a corporation will be taxed as a corporate division. State income tax filing status is the same as federal income tax filing status. When the LLC is taxed as a sole proprietorship or as a partnership, and assets are placed in or withdrawn from the LLC the tax consequences are those typical of the same transactions by a sole proprietorship or a partnership. This characteristic makes placing land and other appreciating assets in a LLC with sole proprietorship or partnership tax status presently appears to be much more feasible than placing such assets in a corporation.

Net operating income or loss and capital gains and losses pass through to members and nonmember owners for taxation purposes. As such these financial flows are subject to state and federal income tax and, where applicable, to self-employment tax.

Distributions of LLC income can be proportional to ownership interests, or in compliance with an alternative pattern established in the articles of organization _ one that's tailored to the needs and interests of family members. However, if you want to use an alternative pattern of income distributions, be sure to secure tax advice prior to implementing non-proportional distributions. You need to understand all the potential tax consequences before making non-proportional income distributions.

Gift Tax and Estate Tax Implications:

For members of a LLC, all aspects of the gift tax, estate tax, and inheritance tax are the same as those applicable to any individual. Gifting of tangible assets outside the LLC as a means of utilizing the nontaxable gift allowance of up to $10,000 per recipient per year (up to $20,000 for a joint gift by husband and wife) can be very difficult as assets with the correct value may be not readily available. Gifting may be feasible only if the prospective donor has financial ability to make such gifts without reducing involvement in the LLC and without disrupting non-LLC business and personal life activities.

Gifting fractional ownership interests in annual amounts less than the tax-free limits can be advantageous when such transfers are authorized in the articles of organization or when written approval is provided by members with a majority in interest. The gift of an ownership interest is noted in the LLC'sownership account to complete the gift. If desired, it is possible over time to transfer part or all of the ownership interest from the older generation to members of the younger generation while retaining management control.

Estate planning can provide a plan for minimizing the legal and tax costs of orderly transfer of business and personal assets to successors. If you are considering gifting or other LLC ownership interest transfers to certain to secure and follow the recommendations of your legal and tax advisers when planning and implementing the gift or transfer.