In order to preserve the advantages of doing business in the corporate form and to comply with the applicable laws in the course of conducting the corporation’s business, there are certain fundamental policies and procedures which should be established and followed.
1. The Corporation’s Status as a Legal Entity – Observing the Corporate Formalities
The corporation is a legal entity or “person” separate from its officers, directors, shareholders and employees. One advantage of doing business in the corporate form is to prevent the corporation’s obligations from becoming the obligations of its officers, directors and shareholders.
It is essential that the separate existence of the corporation be continually recognized and respected, and that any business done by the corporation acting in its status as a legal person, not by the individuals involved. The corporation should exercise care to hold itself out to the public at all times as a corporation. All letterheads, billheads, advertising, business cards and telephone listings should use the corporation’s full name which indicates it corporate status. When the name of any officer or any employee is signed to a letter, contract, or check for the corporation or printed on a business card, you should make certain that the agency capacity of the individual so signing is clearly indicated. It is not enough that you sign a letter on the corporation’s letterhead. You should clearly indicate that it is the corporation’s letterhead. You should clearly indicate that it is the corporation’s letter which is being signed by you for the corporation; i.e., the signature should read, “William Smith, President,” or “John Doe, Assistant Manager.”
This distinction between corporate and individual signatures should be observed even in cases where the individual involved is required to be a signatory (e.g., a guarantor of the corporation’s obligations) in his individual capacity. In such instances, the signator will sign twice, once in his corporate capacity and once as the individual.
All bank accounts should be established in the corporation’s name and signature cards should be executed by the appropriate responsible corporate officials in their corporate capacities and on behalf of the corporation. Insurance policies for fidelity bonds, liability coverage and property coverage should be obtained in the corporation’s name. The Board of Directors should consider the advisability of obtaining bonding for the Treasurer of the corporation and possibly for all other corporate officers.
Transfers of all assets which you decide to contribute or sell to the corporation must be properly documented. All continuing contracts or documents related to the corporation’s business which pre-date incorporation, which are to be transferred, should be modified, assigned or rewritten (with the consent of the other parties as necessary) to reflect the substitution of the corporation for its predecessor, and all continuing business should be done in the corporation’s name. The transfer of real property requires a properly executed deed to the corporate entity and must be filed with the County Clerk and Recorder of the county in which the property is located. Assets transferred to the corporation become its property and, or course, must be treated as such.
It is essential that all important transactions of the corporation, such as major business agreements, loans, employment agreements, leases, and buy-sell agreements, be considered and approved by formal action of the Board of Directors, the policy and major decision-making body of the corporation. If there is a pattern of individual action without Board of Directors’ approval, the individuals involved risk a legal determination that they were acting and are responsible as individuals, despite their use of the corporation’s name.
The Board of Directors must also consider and act upon each of the following: amendments to the Bylaws, election of the corporation’s officers, the salaries to be paid to the officers and all other employees of the corporation, the payment of dividends, and the issuance of additional stock. The shareholders of the corporation must approve any loan from the corporation to any director, officer or employee, any amendments to the Articles of Incorporation, and the sale or other disposition of any substantial portion of the corporation’s assets. The shareholders should meet annually, or act by unanimous written consent to elect the directors of the corporation.
All actions by the corporation’s Board of Directors or shareholders must be evidenced by resolutions adopted by the Board of Directors or by the shareholders, as the case may be. Executed certificates of unanimous consent or minutes of meetings where such action is taken should be kept in the corporate record book. All director’s or shareholder’s meetings must be held upon the notice as set forth in the Bylaws or any person entitled to but not receiving such notice must waive notice in writing.
Finally, it is extremely important that the property of the corporation be clearly understood to be that of the corporation and not that of any individual shareholder or officer. The corporation is not simply a separate pocket of its shareholders but is rather a distinct legal entity. The failure of the shareholders, officers or directors of a corporation to recognize that their corporation’s cash or other assets are not theirs can cause significant and unpleasant encounters with the Internal Revenue Service.
For instance, a shareholder who takes money or property from his corporation must realize that the only way that property can legally be transferred from a corporation to its shareholders is as: 1) a dividend (taxable to the shareholder and not providing a deduction to the corporation); 2) as wages or salary; or 3) as a loan (loans from a corporation to its shareholders are extremely suspect to the IRS and, unless completely documented, have a questionable chance of surviving an IRS audit). Likewise, cash or property made available to the corporation by its shareholders will either be considered a contribution to capital or a loan, and if such loans are not properly documented, it may be extremely difficult to get the assets back out of the corporation without the imposition of a tax.
You should also keep in mind that the corporation may be required to qualify to do business as a foreign corporation in states other Colorado, depending upon the nature and extent of business conducted in such states and the laws of the states involved.
Obligations of the Corporation’s Officers and Directors
In addition to the foregoing matters relating to the maintenance of the corporation’s status and doing business in the corporate form, there are certain important obligations which the corporation’s officers and directors must keep in mind.
The matters of authorizing the issuance of additional shares of the corporation’s stock and declaring dividends to the corporation’s shareholders are solely within the control of the Board of Directors. The officers can issue shares only when authorized by the Board of Directors and pay dividends after the Board of Directors has declared them. Because of statutory requirements and restrictions on the issuance of shares, and, particularly, the payment of dividends, the Board of Directors should obtain accounting and legal advice prior to taking any action with respect to such matters.
It is also essential that all sales and offers to sell the corporation’s stock are made in compliance with the federal and state securities laws. Failure to comply can result in the sale involved being rescindable by the purchaser and, in some instances, liability on the part of the corporation and its officers and directors. Because of the complexity of the legal requirements relating to the disclosure and registration of the offering of securities, it is most important that legal advice be obtained at the time any plan of financing is developed and prior to any contact with any person concerning the possibility of a sale of the corporation’s stock. If matters are not properly handled from the outset, opportunities for financing may be legally foreclosed.
An additional matter should also be highlighted. The corporation may be subject to a variety of federal and state regulations and laws regulating employers in various instances. Among these are tax regulations, principally those concerned with payment of salaries, wages, and payroll taxes, both federal and local; unemployment and workmen’s compensation rules; and regulations governing the workplace, such as those enforced by OSHA, EEOC, etc.