Characteristics of a Close Corporation
A close corporation is organized under state law to operate more informally than most traditional corporations. The business is usually owned and managed by a small group of people, in most cases family members. Like other corporations, a close corporation is a separate legal entity from its shareholders. But, unlike a traditional corporation, the shareholders of a close corporation are involved in the management of the day-to-day operations of the business.
The close corporation election is made at the state level. Its “close” status is usually make apparent by noting this choice in the articles of incorporation. Although every state may differ on the specific language required in the articles, no form is required to be filed with the IRS. At the time the entity applies for its federal tax ID number, it would advise the IRS that it is a close corporation. (See here to download the Bylaws for a Statutory Close Corporation).
The qualifications for a close corporation are as follows:
- Close corporations are limited to 30 to 50 stockholders depending on state law.
- Close corporations must be approved in the state of organization.
- A close corporation cannot make a public offering of its stock.
- Shareholders must agree unanimously to close corporation status.
- A written shareholders' agreement governing the affairs of the corporation must be drafted.
- In most states, the name of the close corporation must be followed by the capital letters “CC”.
The advantages of a close corporation are:
- Major decisions can usually be made much more rapidly than a traditional corporation.
- May elect to be taxed as a C or S corporation.
- Shareholders have limited liability for the business debts of the corporation.
- Since shareholders have direct control of the business, many formalities such as annual board meetings and shareholder reports are not necessary. This lack of formality creates a more relaxed environment.
The disadvantages of a close corporation are:
- Many state statues require that the directors of a close corporation must first offer the shares to existing stockholders before selling to new shareholders.
- Not recognized in all states.
- Number of shareholders is limited to 30 – 50 shareholders.
- Certain types of businesses may be prohibited from operating as a close corporation (check state law).
- Banks often require personal guarantees for loans made to a close corporation.
- Many states require a minimum amount of capital to be contributed to a close corporation for the issuance of shares at the time of incorporation.
A close corporation is organized to operate more informally than most traditional corporations. Although it is considered a separate legal entity and affords the same level of protection from personal liability, it is usually owned and managed by a small group of people (in most cases, family members). The shareholders of a close corporation typically manage the day-to-day operations of the business, eliminating the need for a board of directors. An election to form a “Close” corporation is included in the entity’s articles of incorporation.
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