Some Thoughts on Forming Partnerships and Corporations by Cliff Ennico on Creators.com

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"I have been on my own as a Web design consultant for a couple of years now. Last week, I was approached by two other freelance consultants asking me if I would be interested in going into a partnership with them so we can jointly pitch large corporate clients. What is the best way to structure this relationship so that my interests are protected?"

First of all, forget about a partnership or "joint venture" (technically, a partnership between two or more established businesses). Partners are liable for each other's mistakes, so if one of these other consultants fouls up a job, the client — a large corporation with tons of money to spend on lawsuits — can sue you and seize your personal assets even though you didn't know about the foul-up. With a limited liability company (LLC), that won't happen, and it probably will not cost you more to set up an LLC than it would to prepare and negotiate a formal partnership agreement. Also, you and the other consultants can and should share the expenses (if they refuse to do so, walk away).

Second, in negotiating your agreement with these folks (it's called an "Operating Agreement" for an LLC):

1) Be sure to state clearly that you can take on projects for clients outside of the LLC without having to share any of the proceeds with them;

2) Watch out for "non-compete" or other restrictive provisions saying you have to give the LLC a "right of first refusal" over any new work before you can do it yourself; and

3) Be sure to state clearly what will happen if a corporate client contacts you after an LLC job has been finished and asks you to do another project without the other consultants' participation.

Lastly, be sure the agreement is very clear as to when and how you can withdraw from the LLC if things just aren't working out.

"My wife and I have a limited liability company (LLC) for our business, but our accountant recommends that we form a subchapter S corporation instead. Should I hire a lawyer for this, or can I do this myself using one of the online incorporation services? Our money is tight, but I want to make sure this gets done the right way."

You know I'm a lawyer by profession, and you're asking me to recommend the competition?

Seriously, some of the online incorporation services are pretty good, but in my experience, they all fall short in one way or another.

For example, I don't know of a single incorporation service that will register your corporation for state income, sales and other taxes.

They all will help you get a federal tax identification number. The better ones will tell you you have to register for state taxes, and they may even provide you with a link to the website of your state tax authority. But to my knowledge, none of them links to the registration form yourself — you are on your own when it comes to filling this out and filing it. Most people using online incorporation services don't bother, and they're shocked — shocked! — when they receive a nasty letter from the state tax authority months later asking why they haven't registered.

Another example: Here in Connecticut, unlike most states, there are two pieces of paper that have to be filed with the secretary of state's office to set up a corporation. You first file a certificate of incorporation, just like every other state, but then you have to file an "organization and first report" document stating who your corporation's directors and officers will be. Fail to file that second form, and the secretary of state's office won't send you your corporate annual report forms each year. Fail to file your annual report forms for a couple of years (because you never received them), and your corporation may be dissolved.

While virtually all online incorporation services will file your certificate of Incorporation in Connecticut, hardly any will file the organization and first report because they assume Connecticut is the same as all other states. Wrong.

Yes, it's sometimes expensive to have a local lawyer or accountant set up your corporation, but it's worth it, for three reasons. First, you know the job will be done correctly and that all steps will be followed. Second, if the lawyer or accountant fouls up, you can sue them for malpractice, while you can't really sue an online incorporation service (yes, you possibly could, but they're usually based in faraway states, which makes it prohibitively expensive to do so). Third, legal and accounting fees are fully deductible so Uncle Sam will be sharing some of the expense with you.

If money is really an issue and you absolutely have to use an online incorporation service, ask a local lawyer or accountant to review the paperwork after you receive it and spend not more than one hour making sure everything was done properly. If no "cleanup" is necessary, some lawyers and accountants won't even charge for doing this.

Cliff Ennico (crennico@gmail.com) is a syndicated columnist, author and former host of the PBS television series "Money Hunt." This column is no substitute for legal, tax or financial advice, which can be furnished only by a qualified professional licensed in your state. To find out more about Cliff Ennico and other Creators Syndicate writers and cartoonists, visit our Web page at www.creators.com.

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