business tips


HE SAYS:

Unmanageable debt can bring a small business to its knees.   All efforts should be made to operate your business from cash flow without the need to incur any debts; however, when it is absolutely necessary to borrow money it should be done wisely.

If you dream of starting your own business, it is better to wait until you have put enough start-up money aside to open your doors without the use of borrowed money.   Once started, you should do everything you can to avoid having to borrow money for your business.   Invest your time and hard work, do not buy anything that the business cannot pay for, and do not make the classic mistake of expanding faster than the business can handle.

Borrowing money to run your business should be the exception and not the rule.   Your chances of success will increase if you do not borrow at all; however, if you must borrow, you should follow some basic guidelines.   You should confine any borrowing to short term loans that you know can be repaid from the business.   You should avoid trying to sustain your business by depleting your savings, taking cash advances on your credit cards, or encumbering your home with mortgages or home equity loans.   If your business cannot sustain itself; or, when necessary, carry needed short term debt, then you should cut back on your spending or think about getting into another line of work.

Debt spells nothing but trouble for any small business owner.   There is nothing more frustrating to the owner of a business then to find that the money being generated from all of the hard work and effort is only serving to line the pockets of the creditors of the business instead of being available to the owner of the business.   Debt reduces your options and makes operating your business much more difficult because you now have to answer to the demands of your creditors rather than being able to run your business as you see fit.

If you are fortunate enough to be able to operate your business without borrowing any money, you will have the ability to pursue your own vision and not that of your creditors.

WHAT DO YOU SAY?

This is the second part of a two-part series. Click here to read the first part.

HE SAYS:

As was stated in our last post, a Family Limited Partnership (FLP) can, under the right circumstances, be a very effective estate planning strategy for the transfer of a family business to the next generation; however, it is not something anyone should pursue without careful consideration.

One of the most important steps in forming a FLP is determining the value of the business.  The fact that most small businesses are not very liquid allows the valuation, for purposes of the FLP, to be discounted by as much as 35% to 45%.  The premise is that the value of only a part of the business can be reduced based on the fact that very few people would buy a partial interest in a privately owned family business which does not have a ready market for resale.  This creates the advantage of allowing the business owner to transfer, through the use of the annual gift tax exclusion, interests in the business to his/her children at a faster rate due to the discounted value.

Perhaps, the biggest advantage of a FLP is the applicable tax rate.   Because the income of the FLP is not taxed at the partnership level but is passed through to the individual partners’ personal tax returns, the applicable Federal tax rates for the FLP are based on the individuals’ Federal income tax rates rather than the higher rates generally applicable to trusts.

It must be pointed out that the IRS, in an effort to prevent abuses, has issued regulations that affect FLPs.   In order to qualify for the pass through taxation rules, the FLP must meet the following requirements:

  • the partnership must be bona fide and each transaction must be entered into for a substantial business purpose;
  • the form of each transaction must be respected under substance over form principles; and
  • the tax consequences of each partner must accurately reflect the partner’s economic agreement and clearly reflect the partner’s income.

Since this is a very complicated area of the law, it is highly recommended that you consult with a knowledgeable Accountant, Certified Financial Planner and/or Attorney who specializes in estate planning before you take any action.

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HE SAYS:

Regardless of where you stand on the debate over whether or not the Federal Estate Tax should be repealed, this tax raises issues that should be of concern to everyone who has worked hard to build a successful small business in the hopes that the business will provide security for their children for many years into the future.  The inevitability of death and taxes can shatter your hopes and dreams.

Upon your death, the “fair market value” of your business will be included in your estate and in 2011 can result in a Federal Estate Tax of up to 35% (plus a NYS Estate Tax of up to 16%) of that value, after the exemptions and assuming no unlimited marital deduction to a spouse is available.  Since most small businesses usually represent the largest asset in an estate and generally do not have large reserves of cash, many families find that they have to sell the business in order to pay the estate tax on the business.

Even if you believe that the real value of your business is not high enough to worry about the impact of estate taxes, it has been my experience that the IRS usually determines the “fair market value” of your business to be higher then the price you might actually be able to sell it for since the “fair market value” is a theoretical accounting value and does not necessarily reflect the real value of the business after taking into effect all of the variables in the marketplace.

Unless and until the estate tax is repealed, this dilemma will continue to plague the hard working owners of small businesses and their families.   The only practical solutions presently available are sound estate planning strategies.

One such estate planning strategy is the Family Limited Partnership (FLP).   A FLP is set up in the same manner as any other partnership.  The business owner transfers the business to the FLP, names himself/herself as the general partner with a very small ownership interest and gradually transfers the remaining interest in the business to the children as limited partners.   The general partner makes all the decisions, including under what conditions power and money will pass to the children, while the limited partners hold most of the equity.

In the next installment, we discuss the benefits and possible pitfalls of a Family Limited Partnership.

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HE SAYS:

One of the first and, perhaps, most important business decisions you will make is the form in which you are going to operate your business.   This decision will affect all aspects of your business, including liability and tax related issues.

Sole Proprietorship is the most basic of business structures.   You conduct business in your own name or under an “Assumed Business Name” also known as a D.B.A.   Your D.B.A. is simply a trade or business name that you file with the County Clerk’s Office in the county in which you reside or conduct business.   As a sole proprietor, you assume full personal responsibility for all debts of the business and for all claims arising from its operation, including all taxes that become due.

A partnership is appropriate if your business is operated by two or more people or other entities under a formal agreement.   Each partner contributes money, property, labor or skills and each partner shares in the profits and losses of the business.   The Partnership must file an income tax return; however, the taxes are paid by the individual partners and not by the partnership.    Generally, all partners are liable for any actions taken by any of the partners in furtherance of the partnership.

A corporation is treated as a legal entity that is separate from its owners and which has its own legal rights and duties.   The owners of a corporation are the shareholders who exchange money or property, or both, for capital stock in the corporation.   Each year the shareholders elect a Board of Directors and Officers who run the day to day operation of the corporation.    The shareholders have limited personal liability for the debts and obligations of the corporation.   Unless you file as an “S Corporation”, the corporation is subject to a corporate tax on its profits before it is distributed to the shareholders who are also taxed on this distribution.

The law also recognizes, as a separate legal entity, Limited Liability Companies. The owners of the LLC are called members and the extent of their ownership interest is measured by the amount of their capital contribution to the LLC.   Unless otherwise stated in the Articles of Organization, profits and losses of the LLC are allocated, among the members, proportionately, on the basis of the value of each member’s monetary contribution to the LLC.

The above summary is based on the laws of New York State.   Anyone seeking to start a business is recommended to first obtain the advice of a knowledgeable attorney and accountant.

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HE SAYS:

It was once said that a rose by any other name would still smell like a rose.   A name may not be that important for most things; however, what you choose to name your business could help determine whether or not you are going to be successful.  The name of your business is often the first thing a potential customer knows about you and will shape that all important first impression, for good or bad.

Names that you believe are catchy or cute often are perceived by the public to be misleading, irritating or downright unappealing.   Here are some simple rules that may help you if you are thinking about what to name your small business.

Do not make up names that have no meaning within the English language or any other language.  Large companies with huge advertising budgets can develop name recognition even if they have meaningless names such as Verizon or Google.  This has become less of a problem with the extensive commercial use of the Internet and the proliferation of web based businesses that are able to attract a customer base without having a recognizable name.  Good examples of this are Skype, Groupon, and most recently, Grickets.

Do not use names that are cute to the point of being irritating.   If you are starting a contracting company do not become Bill the Builder or call your business Hammer Me Home.   How many times have we seen names such as Dew Drop Inn, Elbow Room or the Cut And Dye and cringed a little at the obvious play on words.

Do not engage in strained attempts to be the first listing in the yellow pages by calling your business AAAA Number One Car Rental.    Remember the old adage of he that is first shall be last.  You may think you have gotten the jump on your competition; however, most potential customers may not take you seriously and will keep looking.   Even though being found is now more about effectively using Internet search engines than the old fashion yellow pages, there is still some merit to this advice as some people still use the traditional yellow pages or similar online sites.

Do not use your own name as part of the name of your business if your name is extremely difficult to spell or pronounce.   Yes, we all like to see our name up in lights and usually you can’t go wrong using your own name; however, there are times when it just is not good business to make it more difficult for your customers to find you in the phone book or on the Internet.

Do not make your business name too long or complicated.   Usually it is best to keep the name of your business short and simple unless, perhaps, if you are a large law firm and want to string twenty names across your letterhead and business cards.   A business name that is short and simple is easier to remember and to find.

Do not let the name of your business confine you to a limited number of activities or be appropriate for only a limited amount of time.   For example, you would be better off with Joe’s Office Equipment Repair than Joe’s Copier Repair or John’s Winter Clothing Store should just be John’s Clothing Store.

Do not attempt to use a name similar to an already established business in an effort to create confusion and, certainly, do not steal someone else’s name.   Unless you are absolutely sure about the uniqueness of the name you are going to use, you need to check the name out, at least, at the county or state level.

What’s in a name?  Sometimes, everything.

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HE SAYS:

Contract law has developed some very specific rules that you should be aware of and understand as a business owner who, no doubt, will need to enter into contracts from time to time.

At the very least, a contract must clearly express the intent of the parties, particularly, as to the fundamental terms such as price or compensation and quantity of goods to be delivered or type of services to be performed.  Unless a contract defines the basic intent of the parties, it may be held invalid and unenforceable by a Court.

A contract need not be in writing, except for certain agreements which are required by law to be in writing, as long as there is a meeting of the minds as to its terms.   However, if you think a written contract can be full of holes, just imagine what a mess an oral contract can make.   Oral contracts are never recommended and should not be used except for the most rudimentary purposes.

Now that you know why a well-written contract is so important, here are some basic rules regarding the legal construction or interpretation of contracts.

Only where the language of a contract is ambiguous, uncertain, or susceptible to more than one interpretation may a Court interfere to reach a proper construction by construing uncertainties and considering extrinsic evidence.   In the event of doubt or ambiguity as to the meaning of the terms of a contract, the language must be construed most strongly against the party who prepared it or supplied a form for the contract.

The cardinal rule in the interpretation of contracts is that the intention of the parties is to be ascertained and effect is to be given to that intention if it can be done consistent with legal principles.   In ascertaining the intent of the parties to a contract, the purpose to be accomplished and the object to be advanced may be considered by the Court.

In the process of the construction of a contract, words will be given their ordinary meaning when nothing appears to show that they are used in a different sense.   A Party to a contract will ordinarily be held bound to the usual meaning which the law places upon the words the party has used, even though it is proved that one party intended something other than the usual meaning.

The Court will look to the entire contract to determine the intent of the parties and will attempt to give meaning to every provision as long as it can consistently and reasonably be done.  For example, if two clauses of a contract are completely inconsistent with each other, the Court will enforce the first clause and reject the second clause.

If the parties to a contract do not make their intent clear within the contract, the Court will use the basic rules of construction to attempt to impose terms it believes the parties intended.   A well-written contract better serves the needs of the parties and is far less costly than a contract that requires interpretation by a Court.

Again, always consult with an attorney before entering into any contract.

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HE SAYS:

An ounce of prevention is worth a pound of cure.   This old adage has never been more appropriate then when discussing the importance of a well-written and well-thought-out contract.

In any contractual relationship, whether it is for personal or business purposes, the more details and contingencies that are covered in the contract the less that is left to chance or subject to interpretation by the other party’s attorney or the Courts.   The world of contracts can best be summed up by this one phrase: “If you create a loophole, they will find it!”

There can never be a contract, no matter how well written and thorough, that could resolve or anticipate every conceivable, potential dispute; therefore, every contract must rely on the good faith performance of the parties.

The goal, however, when drafting a contract, is to eliminate as many potential disputes as possible so that you minimize the likelihood or need for costly and time consuming litigation.

Most contractual litigation is the result of poorly worded or inartfully drawn contracts that create confusion and misinterpretations rather than from a willful disregard of a party’s contractual obligations.   These lawsuits drain the resources of all concerned and never accomplish for the parties what a well drawn and faithfully executed contract can accomplish.

Whenever a poorly drafted contract sends the parties to the courthouse, the Court determines what is best for the parties and the outcome is rarely as good as what the parties could have determined for themselves if they had taken more care to create a better contract.

Since entering into and enforcing a contract can be full of pitfalls and hidden traps for the unwary, it is highly recommended that you invest the time and money needed to obtain sound and experienced legal advice before signing any contract.   If you don’t do this, just remember, the cure is always more expensive then the prevention.

In the next installment, we will look at some of the specific principles of contract law.

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