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A corporation is a fictional entity created by state statute. It is created by filing Articles of Incorporation with the Secretary of State's office, accompanied by the corporation’s Initial Annual Report. Articles of Incorporation act as a verifiable public record of the legal existence and structure of the corporation and must be signed by an attorney licensed in the state who certifies that the Articles conform to certain statutory requirements. A corporation can be formed and owned by one or more people or entities and has a perpetual existence that survives the existence of any particular shareholder. Key individuals involved in the formation and operation of a corporation may include: incorporators, directors, officers, and shareholders. The same can be the incorporator, director, officer, and shareholder of a company. Ownership interest in a corporation comes in the form of stock. There is more than one type of corporation that can be formed in South Carolina. A corporation can be a standard corporation, a professional corporation, a statutory close corporation, or a non-profit corporation. Every for profit corporation is by default taxed under Subchapter “C” of the IRS Tax Code, unless is elects and is eligible to be taxed under Subchapter “S” of the IRS Tax Code.
The primary advantage to incorporation is limited personal liability to the shareholders. (See Personal Asset Protection of Corporations and LLCs.) Another advantage to incorporating is a corporation’s perpetual existence. It is legally possible for a corporation to last indefinitely, assuming it is financially successful enough to do so. Whereas a general partnership dissolves with the withdrawal of one of its partners, a corporation will continue. A corporation’s directors, officers, and shareholders may come and go, but the corporation, unless otherwise dissolved, will remain. The continuity of the corporate form, therefore, promotes a greater sense of business stability with potential clients, investors, and lenders.
A corporation sells stock to stockholders in order to capitalize the corporation. In South Carolina, the stock of a corporation may, but does not have to be, in the form of a “stock certificate.” Every corporation is initially “authorized” to have a specified number of shares of stock in reserve to be sold and “issued” to stockholders. While there is no absolute rule governing the ratio between the initial number of “authorized” shares and the initial number of “issued” shares of stock, a common ratio is 10:1. In other words, a corporation might initially issue 10% of its authorized shares to its initial stockholders and hold the balance in reserve for future sale or transfer. For example, Alpha Corporation intends to initially issue 1,000 shares of stock. The incorporators, therefore, initially authorize 10,000 shares of stock, holding 9,000 in reserve for future sale or transfer. While, there is nothing that would prohibit that Alpha Corporation from both authorizing and issuing only 1,000 shares of stock, initially authorizing more stock than is initially intended to be issued saves the corporation the time, expense, and potential future voting uncertainties, of authorizing additional shares later on should the some or all of the directors or shareholders wish to sell or transfer additional shares from the corporation, for example, to other investors, family members, or key employees.
Stock represents certain ownership rights in a corporation. Ownership rights in a corporation typically include voting rights and financial rights entitling the holder to a share of the corporation's profits through “dividends” (if a public corporation) or “distributions” (if a privately-held corporation) and/or the corporation’s capital appreciation.
Stock is generally either “common stock” or “preferred stock” and either “par value” or “no par value.” In the event of liquidation of the corporation, common stockholders have rights to a company's profits and assets only after the preferred stockholders’ financial rights have been satisfied. Typically, common stockholders receive one vote per share which grants them the right to vote on fundamental company matters such as the election of directors, stock splits, and dissolution of the corporation. In addition to voting rights, holders of common stock sometimes enjoy what are called "preemptive rights". Preemptive rights allow holders of common to maintain their proportional ownership rights in the corporation in the event that the corporation offers to again issue stock. This means that common shareholders with preemptive rights have the right, but not the obligation, to purchase as many new shares of the stock as it would take to maintain their proportional ownership in the corporation.
Stock that is sold for a pre-designated, minimum price per share is known as “par-value” stock. Stock that is not subject to such pre-designated, minimum price per share is known as “no par value” stock. No par value stock is typically valued and fair market value, whatever price an investor is willing to pay. In “closely-held” corporations, where the stockholders also intend to be in charge of the day-to-day management of the corporation (whether as directors or stockholders, if the corporation has elected not to have a separate board of directors), the price of initially issued stock is generally based on the anticipated initial capital needs of the corporation and/or the amount of money the stockholders have available to invest in the corporation and its activities.
For newly starting corporations, the authorization, sale, and issuance of new stock to stockholders offers an option for raising capital. While obtaining capital from individuals and institutions not involved in the management of the corporation is sometimes possible for a start-up corporation, the potential applicability of federal and state securities laws require that any such capitalization efforts be pursued with caution. The sale of corporate stock is considered a sale of securities and governmental regulations will apply. A licensed business attorney, therefore, should be consulted before the sale or transfer of any corporate securities to determine whether such sale or transfer qualifies for federal and state exemptions from registration and disclosure requirements.
Unless restrictions have been made on the transference of a corporation’s shares, a shareholder my sell, trade, or give his or her stock away. Failure to have appropriate restrictions on the sale or transfer of stock can have profound and negative consequences for a corporation and its stockholders.
An Incorporator is one or more individuals that work to form a corporation prior to the corporation’s having directors or selling stock to shareholders. Any party, whether a natural person or legal entity, may act as an incorporator. Typically, the incorporator’s obligations are over when the corporation holds is organizational meeting, or until such time as the initial directors or shareholders, if shareholder-managed, are in place and so authorized.
A corporation’s “bylaws” are the internal rules or policies that govern a corporation’s operations, especially with regard to the rights and responsibilities of the shareholders, directors, and officers. For this reason, adoption of a corporation’s bylaws is often the first order of business after a corporation has been given authority to conduct business by the state. In the State of South Carolina, if a corporation has elected to be a Statutory Close Corporation in its Articles of Incorporation, the corporation need not have a set of bylaws if all of the provisions required by statute to be in the bylaws are included in the corporation’s Articles of Incorporation, filed with the Secretary of State.
Typically, if initial directors are named in the Articles of Incorporation, the initial directors shall hold an organizational meeting to complete the organization of the corporation by adopting the bylaws, appointing officers, and carrying on any other business brought before the meeting. All minutes of the organizational director’s meeting need to be recorded by the corporate secretary and kept in the Corporation’s record book. If initial directors are not named in the Articles of Incorporation, the incorporator or incorporators shall hold an organizational meeting to elect directors and complete the organization of the corporation. The organizational meeting of the directors or incorporators, however, need not actually occur if the actions to be taken are evidenced in writing and signed by each director or incorporator.
A shareholder owns a share of the business. In most cases, each share represents a right to a portion of the company’s profits through dividends or distributions, as well as a claim against its assets in the event of the corporation’s dissolution and liquidation. A shareholder may also be a corporate director, officer, or both. But a shareholder does not participate in management of the corporation in his or her capacity as a shareholder, other than by voting for directors and major corporate issues, such as a corporate merger or dissolution. Shares are typically of two types: common or preferred. All corporations are required to have at least one class of common stock. Common stock is the standard stock of a corporation and carries with it the right to proportionate distributions (called “dividends” if a public corporation) and the right to vote. Preferred stock typically carries with it preferential payment of distributions, but not a voting right. However, for more advanced business purposes, it should be noted that many different levels and classes of stocks are possible, with varying rights and restrictions.
When a newly starting corporation needs to secure outside capitalization in order to ensure its viability before coming into existence, the incorporators may need to have shareholders commit to shares by completing a “stock subscription agreement.” A stock subscription agreement is a legally binding commitment by the subscriber (investor/shareholder) to purchase a specified dollar amount’s worth of stock.
The ownership of stock, whether purchased from the corporation or from a previous shareholder, is recorded in the corporate “stock register and transfer record.” Because stocks are securities, it should be remembered that any sale of stock is regulated by federal and state securities laws. A licensed business attorney should be consulted regarding any sale or transfer of a corporation’s stock.
The shareholders of a corporation generally elect directors at the annual shareholder meeting. Election of directors is usually done by secret ballot. Because directors may be elected for terms lasting one year or longer, some, none, or all the board of directors may be up for re-election or replacement during the annual shareholder meeting. The annual shareholder’s meeting is also the forum in which the president and treasurer of the corporation present their report on the activities and financial state of the corporation. Every shareholder’s meeting must be recorded by the corporate secretary and kept in the corporate record book.
A director may be a shareholder, officer, or both. But in his or her capacity as a director he or she functions otherwise. A corporation may have one or more directors. Where more than one director exists they are collectively responsible for business decisions and have no individual authority, unless such authority is specifically granted by the board of directors, as they are collectively known. As mentioned above, a director or board of directors adopts the bylaws under which the corporation will be governed. However, policies established by the director or board of directors may thereafter be passed as resolutions, as long as such resolutions do not conflict with the corporation’s articles of incorporation or bylaws. If conflict does occur, the director or directors may amend the articles of incorporation or by-laws by formal resolution with shareholder approval.
A director or board of directors is also responsible for making the major business decisions of the corporation, including appointing the corporation’s officers and determining officer salaries. As with the annual shareholder meeting, every meeting of the board of directors, and the resolutions passed by the director or directors, must be recorded by the corporate secretary and kept in the corporate record book.
An officer may also be a shareholder, director, or both. But in the capacity of an officer he or she functions otherwise. Generally, an officer holds the position of president, vice president, secretary, or treasurer. The officers are responsible for the day-to-day operations of the corporation: the president acts as a general manager, the vice-president acts as manager in the absence of the president or is frequently given specialized supervisory responsibilities, the treasurer overseas corporate funds and accounting records, and the secretary oversees corporate records and stock transfer procedures.
While a standard corporation derives its limited liability protection from its being a distinct and separate entity apart from its shareholders, it is also subject to taxation as a distinct entity unless a specific election to be taxed other than as a separate entity is made. Specifically, every corporation is by default taxed under Subchapter “C” of the U.S. tax code, unless it specifically qualifies and elects to be taxed under Subchapter “S” of the U.S. tax code. Profits of corporations taxed under Subchapter “C” (often referred to as “C-corporations”) are subject to double taxation insofar as they are taxed on the corporation level and then again when distributed to the shareholders, as personal income to the shareholders. In corporations taxed under Subchapter “S,” there is no tax on profits at the corporate level. Rather, taxed obligations on profits “pass-through” the corporation to the shareholders, where corporate profits are taxed or losses are credited to the individual shareholders in proportion to their share of ownership and taxed in accordance with the tax bracket of each individual shareholder.
While double taxation makes taxation under Subchapter “C” unattractive to many prospective business owners, there are notable tax benefits that result from the ability to take certain tax deductions as well as a corporation’s ability to accumulate undistributed profit up to an established limit under Subchapter “C”. However, such deductions and benefits are typically more applicable to large companies and high net-worth individuals. Thus, a qualified legal or tax professional is in the best position to advise a business on whether to maintain its tax status under Subchapter “C.”
Many, if not most, small businesses, however, benefit from specifically electing to be taxed under Subchapter “S.” The general considerations at issue in maintaining taxation under Subchapter “C” or electing to be taxed under Subchapter “S,” along with the requirements established by the Internal Revenue Service for the election of taxation under Subchapter “S,” are dealt with in their own sections of this manuscript. (See the separate sections on Subchapter “C” Federal Income Taxation and Subchapter “S” Federal Income Taxation.)
In determining whether operating as a standard corporation is right for a business, an individual must confront the fact that only by strictly observing the formalities of the standard corporate form will the shareholders benefit from limited liability. While the benefit is substantial, so is the burden of having director’s and shareholder’s meetings, as well as in fastidiously recording the minutes of these meetings. This is especially true for an individual business owner who must uphold the fiction of being a shareholder, director, and officer separately. For many prospective business owner’s the time, cost, and risk in failing to carry out the formalities of the standard corporate form make it a less than ideal business entity.
Importantly, South Carolina law offers most small business owners at least three alternatives to the above rigid formalities.
Section 33-8-101(c) of the 1988 South Carolina Business Corporation’s Act allows the board of directors to be dispensed with or limited by a provision in the articles of incorporation or by a shareholder agreement, as allowed by the articles of incorporation, if the articles or the agreement describe who is to perform some or all of the duties of the board of directors.
For many small business owners, eliminating or even limiting the need or authority of a board of directors under §33-8-101(c) is a step in the right direction. However, the South Carolina Statutory Close Corporation Supplement to the South Carolina Business Corporation Act (BCA) is for many, if not most, business owners (including those who operate as a professional corporation or professional association) the preferable corporate form, in so far as it more openly enjoys the advantages of greater flexibility and ease in operation which §33-8-101(c) would with more difficulty provide.
Finally, whereas operating as a statutory close corporation allows business owners to elect their way out of most of the formalities associated with standard corporations, LLCs have few, if any, formalities in the first place. So there is no need to elect out of such formalities. If business owners are determined to be a corporation, then they might want to consider forming a statutory close corporation. If they have not already decided to form a corporation, then they might also want to consider organizing as an LLC if the avoidance of corporate formalities is of special importance. See the separate sections on Statutory Close Corporations and Limited Liability Companies.
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