Q: I have an idea to start a new company, but it needs seed money. Where do I start?

Answer:

Business Plan

Incorporate

An important step in forming your business is incorporation, which creates a separate legal entity for your business. Your business is separate from you, and it has its own social security number, called a Tax ID number or Employer Identification Number by the IRS. Incorporation has many advantages, but the primary one is that the corporation's assets and debts are separate from those of the shareholders (meaning you). In other words, if the company is sued and loses, they can't come and take your house and car; they can only take the corporation's assets. This is very important to protect yourself and your investors, who will be shareholders.

If you plan to seek investment, the preferred entity of most investors and VCs is the C corporation, which is the standard corporation formed by incorporating. Limited Liability Companies, Limited Liability Partnerships and other entities are not favored due to the variation in rules between states and because they do not have the legal structure of shareholders, a board of directors and officers, which are standard components of investment.

If you have less than 75 shareholders, you'll probably want to elect to be an S corporation for tax purposes. You must file the election form 2553 within a short time after incorporating, so be sure to check with the IRS regarding the filing and the deadlines. If you need to expand beyond 75 shareholders in the future, you can change your tax status back to a C corporation to do so.

Corporate Roles

Here's a rundown of who plays what roles in a corporation:

• Board of Directors: The original directors are designated in the Articles of Incorporation, which is the document filed with the state to legally form the entity. Directors oversee the officers of the company and assure that it operates according to law and corporate procedures. Directors have a fiduciary duty to the corporation to act in the corporation's best interest, not to their own best interest, among other legal duties. These duties are to protect the shareholders' investments in the corporation. Investors often want at least one representative on the board of directors, since the board formally controls the decisions of the company. However, sometimes investors avoid having any directors and arrange other contractual alternatives in order to avoid the fiduciary duty requirements to act for the benefit of the corporation rather than themselves. The board of directors appoints and may fire the corporation's officers, who are responsible for the day-to-day operations of the company.
• Shareholders: Shareholders are people who've been granted stock by the corporation in exchange for money paid or services performed for the corporation. The shareholders meet annually, at the corporation's annual meeting, to elect the board of directors. Shareholders are not financially liable for the debts of the corporation and are not legally liable for any wrongdoing of the corporation. Investors will be granted shares in exchange for their investment. Typically, they will want "preferred shares, which means that if there are minimal dividends or other negative financial events, they will have priority in getting their money over the "common stock" shareholders.
• Officers: Officers typically include at least a CEO and/or president, secretary and treasurer/CFO. Officers do not have the same heightened level of fiduciary duties to the corporation that the board of directors has.

Conclusion

Anytime you're dealing with investor-related agreements and stock grants, you'll want to work with a securities attorney. These areas are complex and vital to making sure you retain control and future benefits from your company. As a side note, the attorney you work with usually should not be a shareholder or a board member of the company. If he or she suggests this, then you should discuss the Professional Responsibility Rules of his or her State Bar with the attorney, phone the State Bar attorney complaint line to discuss the situation and make sure his or her actions are ethical.

1 Readers are cautioned not to rely on this article as legal advice as it is
no substitution for a consultation with an attorney and an accountant in your state. Based
on jurisdiction and time, the law varies and changes.