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Part 1: Instructions GP>>>Corporation GP>>>>LLC No adverse tax issues. No adverse tax issues. Pship-Pship for tax §351 tax-free exchange. purposes. Bob and Andrew No taxable gain or loss contribute Pship interest since business will for stock. Edward-$$$ continue. Bob and Andrew Basis booster for A & B. contribute Pship interest Sub S possibility. for stock. Edward-$$$ Flexible tax year. Basis booster for A & B. Same calendar tax year. Fringe Benefits. Compu Devices has annual revenues of $250,000, with operating expenses of $200,000; and partnership assets valued at $300,000. Proposed basis in the owners respective contribution is as follows: Andrew's partnership interest has a basis of $210,000. Bob's partnership interest has a basis of $90,000. Edward's contribution of cash has a basis of $125,000, if the entire amount is contributed as equity. Party Issue Solution -No add. Contribution Debt; veto, opt out, preemptive rt. Andrew License vs assignment -Patent protection -Salary Fringe benefits, bonus -Control Veto power, majority -No add. Contribution Debt; veto Bob Shop right, ownership -Patent protection -Salary Fringe benefits, bonus -Control Cumulative voting -Additional contribution low-cost debt, add. investors Edward -Assurance re profitability min. debt-equity; -Vote on major decisions Unanimous or supermajority vote -Accelerate repayment-2d Special conditions round Preemptive right -No dilution Party Contribution Tax Effect in Conversion -Partnership interest (70%) Tax-free exchange property for Andrew stock; $210K basis rolls over to corp. unless challenge to value (50:50) -$50K Personal L/C Recourse vs. Nonrecourse -$30,000 CD (collateral) Bank approval to transfer Indemnification from company, if liable. Co. should substitute $30k CD with company assets. Patents-License vs License-K right to royalties, corp. assignment deduct cost, No transfer Assignment-Tax-free, $250K basis Party Contribution Tax Effect in Conversion -Partnership interest (30%) Tax-free exchange property for Bob stock; $90K basis rolls over to corp. unless challenge to value (50:50) -Sweat equity (services) Signing bonus problem for control test and recognized income to Bob; Contribute 10% property to avoid problem, (e.g. pship interest); Right to future profits tied to performance benchmarks. IP (R&D) Work in progress—very hard to value. Should wait until completed e.g., 2nd round. Who owns it? .e.g. Work for hire Party Contribution Tax Effect in Conversion -$125,000 cash, less Tax-free exchange property for Edward stock; Basis equals amount of cash amount construed as debt. as equity. -Debt No assumed shareholder debt; Terms of repayment, Collateral Additional contributions No assumed shareholder debt; convertible debt to protect vs. dilution and allow more control during second round. Triggers: - Death - Employment Termination - Expulsion - Disability - Bankruptcy, Divorce - Voluntary Stock Exit Triggers: - Death: Important for Andrew & Bob via insurance. - Employment Termination: Definitely for Andrew; Installment, perhaps wrapped with owner deferred compensation. - Expulsion: Tough with only three. Require other two vote. Payout same as employment termination. - Disability: Same as employment termination. Confidentiality - Bankruptcy, Divorce: Yes for Bob, given interest of the wife in participation. - Voluntary Stock Exit: Min. vesting period. Impact on employment remains. Staged exit program-installments. Step 1: Answer CWB Question Identify 10 issues checklist related to client that need to be addressed for an Operating Agreement OR a Shareholder Agreement. Use General & Private facts to prioritize the issues. Use form document to ensure basic coverage. Check applicable CA statute re provisions. Keep a copy to share with team member. Step 2: Meet with group, identify client, select team member, and select a team leader (who will summarize major points in BBS, keep track of attendance and advise of any issues) Divide up issues with team member. Create one checklist of critical issues. Step 3: Meet with team member to agree upon issues, select opening position, negotiating points & strategy, bottom line. Identify top 3-5 critical issues to focus on for negotiation. Divide up issues with team member. Identify opening position, negotiating strategy, and bottom line for each issue. Each team send via email to PJ bottom line. Step 4: Meet with group to agree upon the critical issues for the negotiation and who will negotiating with whom. Goal is to achieve bottom line for each issue. Identify issues where likely consensus. Break into subgroups for the negotiation. Try not to negotiate with team member but divide up issues and negotiate simultaneously. Step 5: Meet with group to select template for drafting the agreement and assign who drafts what sections. Work on draft. Rely upon forms in CWB or linked from website. Persons who negotiated sections should oversee drafting of those sections. Document should not exceed 12 pp., 1 1/2 lines spacing, double between sections with subject headings. Include Id no. and client for each group member. Don’t include any term you don’t understand Step 6: Circulate document among members for comment. Reconcile any issues. Turn in one document that everyone will sign. Everyone in the group will receive one grade. PJ will give you comments on work. Step 7: Take feedback and revise agreement. Make any modifications as a result of feedback from professor. Part 2: Drafting Tips 1) Establishes meeting of the minds re ownership, control, exit, and operation. 2) Ensure compliance with IRC, state and federal regulation. 3) Provide a process for resolving future issues, disputes, disposition. 4) Protect interests of the parties. 1. Use forms solely as a guide. 2. Use simple language. 3. Recognize the preexisting partnership. 4. Anticipate the need for a second round. 5. Include contingency for additional contributions. 6. Value equity interests 7. Confidentiality is key for IP. 8. Keep management structure simple. Definitions-Narrow or broad scope, Essential terms Formation-Purpose, term, Additional Members Capitalization-Contributions, Caps, Loans, Liability Allocation of Profits & Losses -Adjustment in Capital accounts Distributions- Profits and losses, Retention Administration -Management, Control, Duties & Taxes Transfers -Notices, Consents, Effect (Buy-sell) Dissolution & Liquidations –Triggers and Events, Winding up Liability & Indemnification – Limits, Conditions, Contributions General Provisions- Meetings, Notices, Amendments, Remedies, Choice of Law Interest for future services okay. No professional LLCs. Disassociation need not trigger a dissolution. Minimum Franchise Tax. Default taxed as partnership. Definitions & recitals- Check statute to conform. Shares at issue- Name, class, no. shares. Capitalization-Contributions, Caps, Loans, Liability Disclosures-Legal counsel, record owners, indemnity for wrongful disposition. Buy-Sell provisions- Triggers, formula for valuation, conditions. Administration -Management, Control, & Duties (limits also) Qualifications, Special rights, Preferences – Related to shares. Legends on Certificates- Restrictions or limits. Interested Transactions – Approval, liability, & process. Process for Approvals, Ratifications Self-Dealing – Limits, Conditions, Contributions General Provisions- Meetings, Notices, Amendments, Remedies, Choice of Law No interest for future services. (§ 409) No. of shareholders capped at 35. (§158) Close corporation w/o Board okay.(§300) Delegation to management co. okay. (§300) Change from close corp. if at least 50%-2/3rd vote (§300) Threshold for control is 50%. (§160) Restrictive rights must be in Articles. (§204) Cumulative voting by directors in classes. (§301.5) Removal of director with and without cause. (§303-304) Self-dealing transactions-full disclosure of material facts and disinterest ratification. (§310, 315) (No personal loans w/o shareholder approval) Redeemable shares (§402) Employee stock option plans (§408) Conversion from GP to LLC and Corp: Contribution of Services to Corp and satisfying the control test for a corp. that is not required for LLC Management- LLC- Managers and members: allocated control to managers over some issues and members for fundamental; Corp.-Board where you can assign committees, or provide veto power. Taxation of earnings: Double tax (corp) vs pass-thru (LLC) No deferred or future contract rights. Exit strategy: LLC-redemption is allocated to other persons per interest or agreement. Nothing called treasury since taxation upon receipt. Issue is whose money we use. Corp.-Redemption by corp and cancel, reissue, treasury shares; Distribution to shareholders is considered a constructive dividend. Fringe benefits: LLC –death and disability okay, but nothing like ESOP, Future rights. Gain on Distributions: LLC: Adjusted basis so less tax; Capital gains okay for both. Funding buy-sell: LLC-no retained earnings; Corp.-more options re insurance and deferred compensation. Transferability-LLC restrictions limited to economic rights; Corp.-freely transferable unless impose restrictions. Equity-Vote: LLC can be disproportionate; Corp-must follow equity interest.
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