You can always do a tax free transfer between two entities as long as you own the property. Keep in mind that it is important that the transfer take place between the outside investment and not after.
The franchise fee for LLC, LLP and S-Corp are the same. They are $800 in the State of California. If you don't think you need the protection, you don't need to file. You can operate as a sole proprietorship or a simple partnership.
S-Corp turns out to be very restrictive and also cost a lot more to file. You could do it on your own but most likely you will need to pay a lawyer. And it doesn't give you more protection than a LLC (in the State of California). Also, converting from a LLC into a C-Corp is simpler.
Corporations are exempt from the $800 for their first year of business.
"Also, converting from a LLC into a C-Corp is simpler."
Everything we have heard and read suggests otherwise. S-Corp can become C-Corp by mistake if you violate any of the restrictions. It can't get simpler than that :)
Regarding the tax event during any M&A, I quote the following from Levin's book "Structuring Venture Capital, Private Equity, and Entrepreneurial Transactions" (page 301.2.2):
"An S corporation is a corporation and hence can acquire another corporation or be acquired by another corporation in a tax-free Code S368 reorganization. In contrast, a partnership or LLC can not be a party to a tax-free reorganization."
I am not familar with Levin's book and the context of his statement. But my experience with rolling assets into a C-Corp is very straightforward. Forget for a minute whether the original entity is LLC or S-Corp. Let say a lone entrepreneur has been laboring over some intellectual property and he is ready to get funding. Before he takes the VC money, his lawyer will create a C-Corp which initially has no value, it will acquire the asset from the entrepreneur in exchange for 100% of the C-Corp (which also has no value). That is a tax-free transfer. Then the C-Corp will issue preferred stock in exchange for the VC money (say 25% of the company in exchange for $5M), all the time encapsulating the asset of the entrepreneur and not subjecting him/her to any tax consequences even though on paper his/her asset is now worth $15M (since he owns 75% of the company). And it makes no difference whether the asset was originally owned by a S-Corp, LLC or just a sole propriatership. The key here is that when the tranfer was taking place, the C-Corp was just a shell and had no value. I hope this helps.
I think there is a problem here gigamon. In your scenario when the C Corp acquires the assets of an LLC at 0 value or extremely low value - say 0.0001 c per unit, then the founders common stock basically is assigned that value. If then right away, a VC pays say 3M pre money for a third of the company which may have 10 M shares - i.e. $1 per preferred share stock, the IRS will have a problem because the stock value cannot enhance by 10000 times so soon even if it is preferred stock. This is why lawyers ask entrepreneurs to form companies asap so that there is some time between founder share allocation and investment where you can show the company gained value from the time founders were allotted stock.
Will all due respect, iamyoohoo, it is done all the time, especially in Silicon Valley. Keep in mind that we are talking about a company that has no product, no revenues and is losing money (Founder's money). Then on one day, it has $5M in the bank and a Board of Directors of big name VC's. In fact, let's look at the problem in reverse. If the company is truly worth $15M (with the Founder's IP) and then then the VC's put in $5M to get 25% of the company, then why are we giving them preferred stock. The reason is simple. Until the company has the $5M, it was worth zero. In fact, even after the investment, we would price the common stock at 1/20 if not less of the preferred stock (so that future employees can get options at a discount price).
I believe the comment by byteCoder (regarding taxable gain) has to do with options and not stock. I believe in his case, the employees actually own options which they decided to exercise, causing taxable gain which normally is not taxable because it is paper gain, but under AMT is considered taxable. This hurts since as byteCoder said, you can't pay real tax with imaginary gain but IRS is insensitive to that. Tax free transfer applies if you actually own the stock which is why it is important to actually write a check in the beginning of the company when the stock cost nothing. As a practice, always own stock. Options mean nothing. But of course, this is only possible if you were one of the Founders.
Comments
You can always do a tax free transfer between two entities as long as you own the property. Keep in mind that it is important that the transfer take place between the outside investment and not after.
The franchise fee for LLC, LLP and S-Corp are the same. They are $800 in the State of California. If you don't think you need the protection, you don't need to file. You can operate as a sole proprietorship or a simple partnership.
S-Corp turns out to be very restrictive and also cost a lot more to file. You could do it on your own but most likely you will need to pay a lawyer. And it doesn't give you more protection than a LLC (in the State of California). Also, converting from a LLC into a C-Corp is simpler.
--Denny--
Corporations are exempt from the $800 for their first year of business.
"Also, converting from a LLC into a C-Corp is simpler."
Everything we have heard and read suggests otherwise. S-Corp can become C-Corp by mistake if you violate any of the restrictions. It can't get simpler than that :)
Regarding the tax event during any M&A, I quote the following from Levin's book "Structuring Venture Capital, Private Equity, and Entrepreneurial Transactions" (page 301.2.2):
"An S corporation is a corporation and hence can acquire another corporation or be acquired by another corporation in a tax-free Code S368 reorganization. In contrast, a partnership or LLC can not be a party to a tax-free reorganization."
DocSavage, thank you for your comment.
I am not familar with Levin's book and the context of his statement. But my experience with rolling assets into a C-Corp is very straightforward. Forget for a minute whether the original entity is LLC or S-Corp. Let say a lone entrepreneur has been laboring over some intellectual property and he is ready to get funding. Before he takes the VC money, his lawyer will create a C-Corp which initially has no value, it will acquire the asset from the entrepreneur in exchange for 100% of the C-Corp (which also has no value). That is a tax-free transfer. Then the C-Corp will issue preferred stock in exchange for the VC money (say 25% of the company in exchange for $5M), all the time encapsulating the asset of the entrepreneur and not subjecting him/her to any tax consequences even though on paper his/her asset is now worth $15M (since he owns 75% of the company). And it makes no difference whether the asset was originally owned by a S-Corp, LLC or just a sole propriatership. The key here is that when the tranfer was taking place, the C-Corp was just a shell and had no value. I hope this helps.
--Denny--
I think there is a problem here gigamon. In your scenario when the C Corp acquires the assets of an LLC at 0 value or extremely low value - say 0.0001 c per unit, then the founders common stock basically is assigned that value. If then right away, a VC pays say 3M pre money for a third of the company which may have 10 M shares - i.e. $1 per preferred share stock, the IRS will have a problem because the stock value cannot enhance by 10000 times so soon even if it is preferred stock. This is why lawyers ask entrepreneurs to form companies asap so that there is some time between founder share allocation and investment where you can show the company gained value from the time founders were allotted stock.
Will all due respect, iamyoohoo, it is done all the time, especially in Silicon Valley. Keep in mind that we are talking about a company that has no product, no revenues and is losing money (Founder's money). Then on one day, it has $5M in the bank and a Board of Directors of big name VC's. In fact, let's look at the problem in reverse. If the company is truly worth $15M (with the Founder's IP) and then then the VC's put in $5M to get 25% of the company, then why are we giving them preferred stock. The reason is simple. Until the company has the $5M, it was worth zero. In fact, even after the investment, we would price the common stock at 1/20 if not less of the preferred stock (so that future employees can get options at a discount price).
--Denny--
I believe the comment by byteCoder (regarding taxable gain) has to do with options and not stock. I believe in his case, the employees actually own options which they decided to exercise, causing taxable gain which normally is not taxable because it is paper gain, but under AMT is considered taxable. This hurts since as byteCoder said, you can't pay real tax with imaginary gain but IRS is insensitive to that. Tax free transfer applies if you actually own the stock which is why it is important to actually write a check in the beginning of the company when the stock cost nothing. As a practice, always own stock. Options mean nothing. But of course, this is only possible if you were one of the Founders.
--Denny--