Most small business owners are aware that it is preferable to operate your business as a corporation, an LLC, or an LLP rather than as an individual, because doing so shields your personal assets from business creditors. However, many business owners that I have met with did not know that in order to maintain this liability protection, they are required to do more than simply file articles of incorporation. In fact, your corporate liability shield will only be effective so long as your corporation continues to maintain certain corporate formalities throughout its operation.
Since we generally recommend S-Corps rather than LLCs or LLPs (for more information, read our article: LLCs and S-Corps: Selecting a Corporate Form for Your Small Business), I will limit this discussion to the corporate formalities required for S-Corps.
Do not be intimidated by the procedures listed below. You should be aware of these formalities, because you are the person ultimately responsible for following them; however, your attorney should guide you through this process and should handle most of the procedural work.
You and your attorney should work together to ensure that your corporation follows the following procedures:
- File Articles of Incorporation with the Secretary of State – this filing will create your corporation and name its shareholders.
- Draft Bylaws – Bylaws are the rules for the operation of your corporation and the interactions between shareholders. Even if your corporation only consists of one shareholder, you will need a set of bylaws in order to show that the corporation is distinct from the shareholder as an individual.
- Hold an Initial Meeting of Shareholders – At this initial meeting, you should adopt your bylaws and elect directors. Your attorney should draft minutes from this meeting and file them in your corporate book. Again, even if you are the only shareholder in your corporation, it is important to hold and keep minutes of initial and annual shareholder meetings.
- Create a Stock Ledger – A stock ledger is a document recording the issuance and transfer of all shares, as well as the names and addresses of all current shareholders as well as the number of shares held by each.
- Create a Corporate Book – This is a book that should be created and maintained by your attorney to house all corporate documents including your bylaws, meeting minutes, and notices.
- File Annual Reports – This is an annual filing required by the secretary of state to update the information on file for the corporation. An accompanying fee is required to be paid on an annual basis.
- Hold an Annual Meeting of Shareholders - At least one shareholder meeting per year is generally required. In preparing for the meeting, it is important to comply with the notice requirements in your bylaws. Minutes of the meeting should be recorded in your corporate book.
- Hold Special Meetings of Shareholders as necessary - Depending on your bylaws, certain decisions may require a shareholder vote, rather than simply director consent. If this vote cannot be taken at the Annual Meeting of Shareholders, you should hold a Special Meeting with proper notice to all shareholders.
- Follow the Bylaws for Corporate Action - Your bylaws should indicate which corporate actions require the Directors to vote or consent in writing, which require the vote or consent of shareholders, and which require neither. You should know what your bylaws require and comply with them before taking corporate action.
Depending on the number of shareholders and the operational procedures you desire, you may choose to file your Articles of Incorporation as a Close or Closely Held Corporation, which will allow your S-Corp to do away with some of the decision-making formalities listed above. Close and Closely held corporations will be the subject of next week’s article.