A friend of mine and I are thinking about starting a little web business on the side. (Of course, it will get discovered and we’ll sell it to Facebook for 300 million in 2 years.) He lives in Texas, I live in California. Can we set it up in either state? Also, I will be the majority older, if that matters.
From what I understand, all things remaining equal, it would be better to set up in Texas, from a tax standpoint. Is that possible? I have to imagine that this is not an uncommon situation. What are the options? Things to take into consideration?
Thanks.
*Yes, there should be a question mark in the title. :smack: And I just learned that you can’t go back and edit a thread title.
Hmm…when I did this, it was for my home state for an LLC. but I think it depends on if you want to have a general or limited partnership.
It should be in the state where the ‘hq’ operations will be. I’m 99 per cent sure on this, because my dad has dealt with this before and runs everything out of Iowa because of taxes and overhead. but you’re talking about a business that’s run out of two homes? so: your agreement would have to go a certain way.
a business is an income-reporting organization. So whether you’re the ‘majority’ financial owner or not, understand that you as a business (partner) are reporting profits, not income. Both of your names would have to be on all forms if you’re in a partnership. If you think you have the final say in things because of capital, you’re going to have to etch out an agreement between the two of you. Same goes for pay and division of profit. It’s kind of like a marriage.
I would think about those things first. Then check with your state about registrations. And make sure you have a lawyer.
In my experience - and this is just my own little world of my 10-year-old Web business - the best place to incorporate is the place where the person who is doing all the bookkeeping and check depositing lives.
If you’re going to do the payroll and collect payments and do tax payments and everything, set up where you live and get an accountant and a lawyer where you live. If your partner is going to do all that stuff, do it where he/she lives.
My business partner moved to GA about 4 years into our business, and I’ve been taking care of all the bookkeeping and stuff. I run the show just like an Ohio business, but we have a tax ID in Georgia too and I withhold Georgia taxes for him and pay tax to Georgia using the Georgia Web site. Everything else - me and the other employee are in Ohio - is Ohio taxes, including the company’s income tax.
If our accountant had to deal with any more GA taxes or if I had to deal with anything else Georgia, we’d be screwed. It works out because I am here and so is “the company.”
A lot of companies chose to incorporate in Delaware for tax advantages; however, you would need to have a registered agent in Delaware. That is not really an issue because you can likely find a Delaware business that specifically does such–for a fee (that is an assumption based on what I know from my state-Texas)
If you don’t want to incorporate in a state where neither of you live, then you should chose Texas (no bias, but conservative-pro-business red states are tax friendlier). You would list your business partner as the registered agent (meaning if a suit against you is filed in Texas, service is going to the address he’s listed).
Regarding previous posters’ comments on who is doing the book-keeping: it doesn’t matter, as long as whoever is doing such has the capability of understanding what is required under the state you chose to incorporate.
You should find a small-time lawyer and talk go him/her about getting things set up. It should cost less than a thousand bucks (that’s a WAG, really) and would be well worth it. In addition to the question in the OP, you’ll at least need someone to draft an agreement between you and your friend and advise you on what business permits you’d need.
Now, to your question. First, you don’t want to “incorporate” anything–you want to organize an LLC (which will be treated as a partnership for tax purposes).
Second, you want to organize the LLC in Delaware. All LLCs are organized in Delaware. There’s very rarely any reason to form it in any other state. It doesn’t matter where you will do business, just organize it in Delaware.
Third, the taxes that apply generally depend on where the entity does business. If your ass is in CA while your friend’s ass is in TX and you have customers all over the place (i.e., on the internet), then you are likely not doing business in either CA or TX. The only state income taxes that are likely to apply are those on your personal incomes (none for him, lots for you).
Thank you all for the info. The only thing I don’t get is the advantage of having the LLC in Delaware as opposed to Texas. The tax situation is the same, is that not right?
That’s right, the tax situation is the same. Delaware is just basically the standard, so people are used to seeing it, which may make it easier to do certain things such as sell LLC interests, get a new equity investor, get certain types of financing, or get certain types of legal opinions that may be necessary in connection with the above.
Make sure you are very aware of the rules and requirements for California. In many cases, having any owner (or even an employee) operating there makes you subject to CA tax regardless of where the company is formally registered. You may be able to allocate income between states in a case like that, but you won’t necessarily avoid the tax entirely.
The same caution really goes for other states, but I have particular experience with the way California decides that they can tax everything somehow.
In fact, the issue of where you incorporate is not all that important compared to where you have a nexus. The states, being broke and looking for more revenue, are starting to get very broad about what they consider a nexus to be. Do a search for Dell and the state of New Mexico for a recent court decision that’s pretty significant (Or, start here: Third Party's Activities Create Nexus )
Sheeze. One more reason to hate the stat I live in. (Not enough to move yet, though.
I read that article. Thanks. It seems to be so open to interpretation. I don’t know if you or others would care to venture an opinion but here’s the situation:
[ul]
[li]I live in CA.[/li][li]He lives in TX.[/li][li]The business will be about 80% mine, if we ever n=manage to sell it.[/li][li]The domain name is owned by me.[/li][li]The business will operate out of TX. The product will be made there. All payments will go to that address. I don’t plan to receive any money in CA. All proceeds will go to furthering the business. (Unless we sell it down the road.)[/li][li]Eventually we’d like to get to the point that the site would be popular enough to merit people advertising on it.[/li][/ul]
Basically, I’m just providing the idea, the domain name, and crafting doing website creative. (Actually, I’ll likely have a friend of mine here in CA do it in exchange for some equity. My friend in TX is willing to lay out the small amount of money required to get the project off the ground.
Thoughts? And let me just say that I understand that no one is offering actual legal advice and at some point I’ll need to get a lawyer involved. I’m mainly trying to figure out if that is going to be in the ballpark of $1,000 or $5,000.
The subject of nexus is extremely boring and fact specific. Every lawyer has read all sorts of cases (involving “filled milk” and cheese and what-not) in constitutional law about the subject, and the same basic standard is used for whether a state can impose a tax on a business. (Aside to law students: do not take state and local tax, you will have to read more of these cases than you ever thought you never wanted to.)
It seems to me (and I’m a tax lawyer but not yours, I don’t really do state and local tax, I may be totally wrong here, do not rely on this, which isn’t legal advice) that we have a business operating in TX that has one owner located in CA. I don’t see how there’s CA nexus here. If you were also an employee as well as an owner, or if you participated substantially in the operation of the business (sounds like your buddy is doing all the work and you are more of a behind-the-scenes idea guy instead of a day-to-day operations guy), then maybe you would have CA nexus.
You may be able to shore up your position as not operating the business by being only a member of the LLC and having it be manager managed, with the other guy as the manager. But that may give him more rights to do stuff with the LLC than you’d be comfortable with Or, if you wanted to get more complicated, you could set up (i) a limited partnership with you and the other guy as limited partners and (ii) an LLC to act as the general partner of the limited partnership, with you and the other guy as members of the LLC. The LLC could have a noneconomic interest in the limited partnership.
Also, I should add that even if you have CA nexus, the business would only be subject to tax on its income that is apportioned to CA. Typically states apportion income based on three factors, which are sales in that state, property in that state, and . . . something else . . . maybe employees in the state. So, you may end up with very little income apportioned to CA.
Get a lawyer. (I am one, but This post is not legal advice).
Generally speaking (note weasel words there), if the business entity earns income in a particular jurisdiction, it (or its owners, if it’s a pass-through entity), will get taxed in that jurisdiction even if the entity is organized under the laws of a different jurisdiction. For example, a Delaware corporation, a Maryland LLC whose members are in Michigan, Hawaii and Outer Mongolia and a German GmbH earning income in Florida could all be subject to Florida income tax.
The reasons for choosing to incorporate or organize a business entity in a particular jurisdiction generally have less to do with tax and more to do with other features of the law. For example, Delaware has a court system that is optimized to deal with corporate cases, with the result that there is more certainty as to what a decision a court would be expected to make in a given situation. Pennsylvania has laws that make it harder for hostile takeovers to succeed. And so on.
I would think the way to go is to have him be the sole owner of the business and you be a consultant and board member, and each of you has an amount of voting shares according to your ownership in the business. There’s got to be a way to do that such that all you pay tax on is capital gains on your shares and your personal payroll income, and then incorporate in whichever state provides the most economic freedom. I heard that there’s one company that lets you claim that their office is your headquarters, and there are over 4000 companies incorporated with that as their official headquarters. Maybe that’s how they avoid getting taxed in different states.