Beneficial Owner Reporting - Corporate Transparency Act

In 2021, Congress passed the Corporate Transparency Act (“CTA”), a law requiring a new beneficial ownership information reporting requirement as part of the U.S. government’s efforts to make it harder for bad actors to hide or benefit from improper gains through shell companies or other opaque ownership structures.

Starting January 1, 2024, the CTA will mandate "reporting companies" to submit a report to FinCEN, disclosing info about their "beneficial owners." Those formed before 2024 have until 2025 for their initial report. Proposed regulations issued on September 27, 2023, extend the initial report deadline for companies formed between 2024 and 2025 to 90 days from formation. Companies formed after 2025 must report within 30 days.

A reporting company encompasses entities filed within the US or foreign entities doing business within US states, territories, or Indian tribes. There are over twenty types of entities exempt from the reporting requirements. These entities include, but are not limited to, publicly traded companies meeting specified requirements, banks, venture capital fund advisors, insurance companies, inactive entities, many nonprofits, and certain large operating companies.

"Beneficial owners" are individuals who directly or indirectly control or own at least 25% of an entity's ownership interests and it is normal for companies to have multiple beneficial owners. Accountants and lawyers who provide general accounting or legal services are not considered beneficial owners as standard arms-length advisory or other third-party professional services are not considered to be “substantial control.”

For companies formed after 2024, up to two "company applicants" must be identified. A company applicant is an individual who directly files or is primarily responsible for the filing of the document that creates or registers the company. 

Reports will include full legal names, birthdates, current addresses (or business addresses for company applicants involved in entity formation), and ID information from documents like a US passport, driver's license, or foreign passport if no US document is available. If you are required to report your company’s beneficial ownership information, you will do so electronically through a secure filing system available via FinCEN’s website. This system is currently being developed and not available at the time this blog is published.

You can find the answer to many FAQs here, and as new information comes out we plan to create a helpful checklist and other resources to aid our clients with these new reporting requirements. Archetype is committed to helping our community stay compliant, and don’t hesitate to reach out if there is any assistance we can supply on this matter, or any others.

California's Employee Pay Data Reporting Law

On September 30, 2020, California Governor Gavin Newsome signed SB 973 into law, which requires private employers with more than 100 employees (irrespective of employee’s location) to report certain pay data to the Department of Fair Employment and Housing (DFEH) by March 31, 2021 and on a yearly basis thereafter. While California will be the first state to require such employee data be submitted to state agencies, the general requirements of SB 973 won’t be new to many employers. 

Existing federal law currently requires certain employers file with the Equal Employment Opportunity Commission (EEOC) an annual Employer Information Report (EEO-1) which contains employee data. SB 973 seems to mimic the Federal law and posits that on or before March 31st of each year (starting March 2021), private employers in California with 100 or more employees who are also required to file an annual report with the EEOC, must submit pay data to the DFEH related to its employees covering the prior calendar year. For purposes of SB 973, an employee is an individual on an employer’s payroll whom the employer is required to include in an EEO-1 report and for whom the employer is required to withhold federal social security taxes. 

The DFEH will maintain data for a minimum of 10 years and is generally prohibited from making public any personally identifiable information contained within the data submitted. Personally identifiable information submitted to the DFEH under SB 973 requirements would generally be treated as confidential information and most often will not be subject to a California Public Records Act request. 

Employers subject to SB 973 generally have to report the following: 

1. The number of employees by race, ethnicity, and sex for the following job categories: executive or senior level officials and managers; first or mid-level officials and managers; professionals; technicians; sales workers; administrative support workers; craft workers; operatives; laborers and helpers; and service workers. 

2. The number of employees by race, ethnicity, and sex who make an annual amount within each of the pay bands used by the U.S. Bureau of Labor Statistics in the Occupational Employment Statistics survey (including the hours worked by each employee)
   

Employers with multiple establishments will have to file a single report for each establishment and file a consolidated report that includes all employees.  In submitting the data, employers are permitted to provide clarifying remarks on the data, but are not required to do so. Employers are permitted to submit a copy of their EEO-1 Report to satisfy their reporting requirements under SB 973. Failure to comply with SB 973 or provide the required data may result in the DFEH or the Employment Development Department (EDD) seeking an order requiring compliance and the DFEH or the EDD are entitled to recover any costs associated with seeking such an order. 

On November 2, 2020, the DFEH issued a frequently asked questions (FAQ) page to assist with compliance. The current FAQs provide background information on why this data needs to be collected, whether the pay data submitted will be publicly available, various data privacy and protection concerns, and answers other miscellaneous questions to ensure compliance. More information from DFEH and EDD to assist employer-compliance will most likely be released as we get closer to the filing date requirement.

Accounting Tips for Small Businesses

When entrepreneurs begin the process of turning a business idea into a reality, many of them run into the unfamiliar world of business accounting for the first time. While consulting with specialists like CPAs and tax attorneys is often a good idea, there are a number of basics that every small business owner ought to know.

Separating Accounts

One of the most important steps to take when starting your own small business is to keep your personal expenses and income separate from your business ones. An essential step toward this is opening a business checking account from which you can pay your team, as well as business expenses such as your monthly business credit card statement.  

To open a business bank account, most banks will require you to show (i) your filed Articles of Incorporation (if you own a corporation) or Articles of Organization (if you own an LLC), (ii) your federal Employer Identification Number (often referred to as your business’s EIN), and (iii) operating documents, such as your bylaws or operating agreement.

A separate account is crucial to protect against the claim that the owner failed to take the business seriously and is instead operating as themselves personally, and therefore, should not be granted personal liability protection. One of the key factors a court will look at when deciding if the personal and business affairs were kept separate is the strict use of a separate business bank account.

Create Regular Profit and Loss Statements

A profit and loss statement (P&L) is a financial statement that summarizes revenues, costs, and expenses incurred during a specific period of time. A P&L will look at the total revenue you’ve generated in your business and itemize expenses into costs of goods sold and operating expenses. You obtain your business profit by subtracting your total expenses, including taxes and interest, from your total revenue. 

A P&L is a helpful tool to allow the business owner to understand if they are operating at a profit or a loss, and if done consistently, you can compare this to other time periods. Comparing allows you to understand if business strategies and tactics are taking hold, and give you a better insight into profits and growth.

Track Business Expenses

It’s important to get a receipt for any expenses incurred on behalf of your company. Not only does this practice help you prepare monthly, quarterly and annual P&Ls, but is necessary when it comes time to report your taxes.  In order to claim both partially or fully deductible business expenses you need the receipt for proper verification and tracking. 

Some examples of business expenses that can be deducted, include, but are not limited to: staff salaries and benefits, software and subscription services, business meals, education, insurance, marketing, professional fees, supplies, interest, and travel expenses.

Keep it clean, keep it relevant, keep it actionable

Your books are going to become one of the primary sources of data for tracking and reporting your business’s performance. Your P&L mentioned above is a big part of that data. As such, you want to make sure that not only are books accurate for tax purposes, but they’re also relevant and actionable for your own decision making.

Clean books – in addition to just staying up to date on entering your expenses, make sure they expenses are added with the right date, vendor, and category (to help with deductions). Your P&L will offer few insights (and be a headache for your tax preparer) if the months don’t reflect when expenses were incurred or the categories are inconsistent from month to month. A couple of important tips:

• Avoid categorizing expenses as “miscellaneous” 

• Make sure invoices and payments are paired to avoid double-counting expenses

• When writing checks put the invoice number(s) on the check and indicate what it is for on the memo line
  

Relevant data – besides being accurate, expenses should be in appropriate categories and months to give a clear picture of the business’s performance. Books that are not accurate from a tax perspective may not be giving you a clear picture or be easy to understand. A couple tips: 

• Familiarize yourself with accrual and cash basis accounting (it’s simpler than it sounds) and track expenses in the month they were incurred to avoid months with big jumps in expenses due to timing of payments

• Organize your expense categories to group similar expenses so you can track patterns in spending and draw insights

Take action – 

Setting your records up early with a plan will save a lot of time and effort down the road as you expand your business reporting to gain deeper insights into the business.

Stay on Top of Tax Deadlines

Almost all small businesses are required to file estimated quarterly tax payments.  Quarterly taxes are due April 15, June 15, September 15, and January 15. Set reminders for at least a month before to make sure you don’t miss these deadlines. 

The quarterly tax payments are made up of two types of taxes: income tax on your company’s profits and self-employment taxes. For a business operating in California, this includes California Franchise Taxes, federal taxes, and, for pass through entities such as a standard LLC or an entity taxed as an S-Corp, personal quarterly tax payments based on estimated earnings.

This blog was co-authored by Alex King of Archetype Legal, and Chase Spenst of Ground Control.

Disclaimer: This post discusses general legal and tax issues and developments, is intended to serve as informational only, and may not reflect the most current law or tax regulations in your jurisdiction. These informational materials are not intended, and should not be taken, as legal or tax advice on any particular set of facts or circumstances. No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel or tax professional in the relevant jurisdiction.  Archetype Legal PC and Ground Control expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this blog post.

Non-Solicitation Clauses in Employee Contracts are No Longer Enforceable

Employers in California have long understood that non-compete clauses (clauses specifically prohibiting an employee from working for a competitor after their termination) in employment agreements are generally unenforceable. This restriction is based on California Business and Professions Code Section 16600, which states that, “every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind is to that extent void,” and California’s “strong public policy of protecting the right of its citizens to pursue any lawful employment and enterprise of their choice.” See Dowell v. Biosense Webster, 179 Cal. App. 4th 564, 575 (2009).

While including a non-compete clause in an employment agreement can in itself risk liability for an employer, other restrictions on an employee’s conduct after their termination have been permissible, including non-solicitation clauses that prohibit former employees from “raiding” an employer’s workforce by reaching out to former coworkers to try to hire them at a new company.  In November 2018, however, the California Court of Appeal for the Fourth District held that employee non-solicitation clauses are also invalid under Section 16600, and two courts in the Northern District of California have since agreed.  

The courts in these cases followed the same logic as those that barred non-compete clauses - non-solicitation clauses limit employees’ job opportunities by creating fear among employees and employers that hiring employees from the same company may risk expensive litigation, even if intentional “raiding” had not occurred. As a result, non-solicitation clauses are now also both unenforceable and grounds for attorney fee awards, and employers should consult legal counsel before including such provisions in an employment agreement.

Employers still have the right to protect their trade secrets and confidential information from use and disclosure by former employees, so employment agreements should be properly drafted to restrict employees’ post-termination actions to protect these assets. However, if employers simply don’t want employees to leave, the employers need to provide incentives to stay, rather than unenforceable restraints on their employees’ job mobility.

Planning for the Sale of a Business

Once the decision has been made to sell or acquire a business, the next steps are, by their very nature, very complicated. Downstream consequences from both tax and liability perspectives drive the deal terms that both the buyer and the seller will ultimately agree to. The nuances of such a sale could fill an entire textbook, but below are three upfront considerations you’ll want to talk through with both a lawyer and a CPA as you start to plan the sale or acquisition of a business.

(1) Find the Hidden Landmines that Can Blow Up the Deal

Before investing resources and energy into preparing financials and drafting a non-disclosure agreement and letter of intent, think through what types of issues have the possibility of blowing up the deal – other parties who may block the sale or big-picture deal breakers. Such issues include: (i) working with a landlord to structure a new lease or lease assignment (and the landlord’s willingness to do so), (ii) pending (or actual) liabilities, such as a lawsuit that has been threatened, (iii) the unwillingness for human talent to remain engaged with the new buyer, and (iv) the need to pay off the seller’s outstanding debt simultaneously when the deal closes. If landmines like this can’t be resolved, then there may be little point moving forward with discussions and negotiations. 

(2) Will the Sale be Structured as an Asset Sale or Stock Sale

A business can be sold in one of two ways: the sale of the entire corporate entity (stock sale) or the sale of the company’s assets (equipment, intellectual property, cash). For small business owners operating as a sole proprietorship or single member LLC treated as a disregarded entity this will not be an issue, as there isn’t an entity to purchase, so the deal will organically be structured as an asset sale. For corporations or multi-member LLCs, however, the structure of the sale is important. 

If the business is a corporation, in general the buyer would like the deal to be structured as an asset sale, and the seller would like it to be a stock sale. A buyer is interested in a step-up in tax basis of depreciable and amortized assets, and also not purchasing the seller’s liabilities (debts, lawsuits, etc.). Alternatively, the seller would like to sell the stock (and the liabilities, if any) and pay a single tax at the capital gains rate. However, in some cases open contracts of a business or a team of employees can only be taken over by the buyer through the purchase of the corporate entity, so the buyer may find benefits to a stock sale. 

The moral of the story is that the tax consequences to both the buyer and the seller can vary dramatically between an asset and a stock sale, and for the buyer there may be benefits to buying the liabilities of the company so that the full value of the company is obtained. These complex considerations emphasize the importance of not only working with a CPA and a lawyer during the sale, but also finding a price that allows the seller to feel good about the return and the buyer comfortable with the after-tax purchase price.

(3) How Will the Payment Price be Structured

As the saying goes, a dollar today is worth more than a dollar tomorrow, and the timing for when the entire purchase price will be paid is a big negotiation topic. A seller in need of cash now may be willing to take a lower price upfront, as opposed to an installment sale over time. Alternatively, generally a buyer would like to think of the business as paying for itself, and so an installment sale has a lot of appeal as it takes less present day capital to complete the deal. 

Additionally, it is common to incorporate an “earn out” as part of the sale, which are payments to the seller based on the future performance of the business after the sale takes place. The rationale behind an earn out is that in many sales the seller will stick around to help facilitate a smooth transition, and so it keeps the seller invested in ensuring that the sale and future of the business is successful, as well as the buyer essentially saying “prove your business is really worth this selling price.” 

The topics above are only a few of myriad considerations that must be made when a business is sold or purchased. We strongly recommend you take the time to speak to an experienced lawyer and CPA who can help you navigate what next steps look like for your unique situation.

Disclaimer: This post discusses general legal issues and developments, is intended to serve as informational only, and may not reflect the most current law in your jurisdiction. These informational materials are not intended, and should not be taken, as legal advice on any particular set of facts or circumstances. No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel in the relevant jurisdiction.  Archetype Legal PC expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this article.