Using Business Entities as a Risk Management Tool to Help Organic Growth for Your Food & Agriculture Business

Using Business Entities as a Risk Management Tool to Help

Organic Growth For Your Food & Agriculture Business

NOFA-NY Annual MeetingJanuary 26, 2014

By Cari B. Rincker, Esq.

Who I Am• Grew up on a beef cattle

farm in Illinois– Advanced degrees in

animal science• Chair of the ABA, General

Practice, Solo & Small Firm Division’s Agriculture Law Committee

• Client base ranges from livestock producers & food entrepreneurs to mid-size agri-businesses

We Will Be Talking New York Law Today

• Law on business entities and formations varies slightly from state-to-state

• If you are interested in the law in other states, please speak to an attorney licensed in that jurisdiction– I’m licensed in New York,

New Jersey & Connecticut

One More Disclaimer• I am a lawyer but not necessarily your lawyer

unless you’ve signed a retainer agreement with Rincker Law, PLLC (which creates attorney-client privilege)

• Today’s presentation is for informational purposes only should not be considered legal advice– Before making decisions for your farm or food business,

it is always best to have a candid conversation with an attorney about your specific circumstances

Choices of Business Entities• Cast of Characters– Sole Proprietorship – Partnerships (general and

limited)– Corporations– Limited Liability Companies– Trusts– Cooperatives– Not-for-Profit Corporations

Let’s break them down..

Sole Proprietorship

• This is an informal legal entity formed with 1 person

• Unlimited personal liability– Big disadvantage

• This is a common choice of business entity– Default when a business only

has one owner and hasn’t formed another entity

Sole Proprietorship

• Filing Requirements– No filing requirements with

the NYS Department of State – No filing fees!

– Should file a Certificate of Assumed Name with the County Clerk if a d/b/a under NY General Business Law §130 • $110 in New York County

Examples: Farmer Jane Smith d/b/aJane’s Pumpkin Patch & Hay Rides

Cari Rincker d/b/a Rincker Cattle Co.

Sole Proprietorship• Although not required, should

consider obtaining a Federal Employer Identification Number (“FEIN”)– If a sole proprietorship does not

obtain a FEIN then it will have to put its social security number on tax forms if independent contractors or employees are hired

• Also consider opening up a separate business bank account with the FEIN

Partnerships

• Definition of a Partnership– When more than one person

goes into business together to share profits (not necessarily losses)

– Can be formed inadvertently

How many of you have formed a partnership at some point? Partnerships are very commonin the food and agriculture industry.

2 Types of Partnerships

General Partnership Limited Partnership

General Partnerships are more commonin the food and agriculture industry

General Partnerships• Definition: Where two or more people

go into business together and share profits without forming another formal entity (e.g., LLC, LLP, corporation)

• Liability: Each partner is jointly and severally liable for the debts of the partnership- no liability shield– Unless stated differently in the general

partnership agreement, each partner has the authority to bind the partnership without the express written consent of all partners

General Partnerships• Filing Requirements– GBL § 130 requires partners

carrying on business as a partnership to file a certificate with the county clerk in each county in which the partnership is going business

– Failure to file a certificate doesn’t affect the rights of any third persons and doesn’t limit the liability of any partners under the provisions of the New York Partnership Law

Limited Partnerships (the “LP” or “LLP”)• A limited partnership requires at

least one limited partner and at least one general partner

– Limited Partner: • Limited liability protection• Must not participate in the

management of the partnership under NY Partnership Law (“PL”) § 121-303

– General Partner: • Unlimited personal liability • Makes all the day-to-day

decision-making

Limited Partnerships

• Filing Requirements– Must file a Certificate of

Limited Partnership with the NYS Department of State pursuant to NYS Revised Limited Partnership Act (“RLPA”) § 121-201

– Costs $200– Must be filed by the general

partner(s)

Limited PartnershipsLimited Partnership Agreement– RLPA requires a limited partnership agreement– Partnership agreements are very important for all

types of partnerships but paramount for limited partnerships• Identification of the ownership units of each limited

and general partner• Capital contribution• How profits and losses will be divided• Responsibilities, duties, and restrictions

Limited Partnerships• A few of you might be thinking, “what’s the

point?”• Limited Partnerships or Family Limited

Partnerships (“FLP”) are helpful succession planning tools.– The limited and general partners don’t have to be

people – they can be entities. If a farm operation has broken its business down into multiple business entities, a limited partnership can be a nice cover layer for farms concerned about the estate tax.

Corporations• Every owner (or shareholder)

is given liability protection so long as the corporation is properly capitalized and adheres to corporate formality requirements– Corporations have more

corporate formality requirements than limited liability companies

Types of Corporations for Taxes

• Taxed on its earnings and its shareholders taxed from the corporation (i.e., double taxation)

• Can be a publically traded company

C-Corporations

• Pass-through tax for shareholders (no corporate tax)• Requires 75 or fewer shareholders who are natural persons, no non-

resident alien shareholders, and only 1 class of stock

S-Corporations

• Charitable “for profit” entity – working for the public benefit

B-Corporations

Corporations• Filing Requirements

– Must file Certificate of Incorporation with the NYSDOS pursuant to NY Business Corporation Law (“BCL”) § 402

– $125 plus applicable tax on shares

• Internal Documents– Bylaws discuss internal governance

• Shareholders elect Board of Directors, who manage corporate affairs

• Board of Directors elect officers under BCL § 715

– Might also choose to have a shareholder agreement

Limited Liability Companies

• Nice hybrid between partnerships and corporations – can decide how to be taxed (e.g., C-corp or S-corp)

• Liability protection for the owners (called “members”) so long as the LLC is properly capitalized and LLC formalities are properly adhered to

Limited Liability Companies• Filing Requirements– Must file Articles of Organization

with the NYSDOS pursuant to Section 203 of the New York State Limited Liability Company Law (“LLCL”)

– Must also comply with publication requirement• Can be expensive in New York,

depending on the county

• Internal Documents– Operating Agreement

Piercing the Corporate Veil• Simply because your farm or food

business forms a corporation or limited liability company, does not mean that a court will not hold the owners personally liable for the company’s debt

• Court can “pierce the corporate veil” if:– Grossly undercapitalized– Flagrant disregard for corporate

formalities– Owners treat corporation as their

“alter ego”

Keeping the “Corporate Shield”• Get a corporate formalities

“check-up” – Are you up to date?

• Annual member/board of director minutes

• Look at the Operating Agreement or Bylaws to ascertain what you need

– Have you properly complied with formation requirements?• Example: I meet a lot of LLC

business owners that haven’t complied with publication requirement in New York and don’t have an Operating Agreement

Keeping the Corporate Shield

• Keep personal assets and corporation/LLC assets separate– Don’t co-mingle assets

• Put contracts and title of corporation/LLC property in the business name– Use corporation/LLC

letterhead

Cooperatives

• Multiple people organized to carry on business on a cooperative basis

• Cooperatives are formed for the mutual benefit of the members (owners) – CCL § 40

• Usually, cooperatives are formed so that members may procure goods and services on a collective basis or market their products through a group activity

Classifications of Cooperatives

Agricultural

• for the purposes of “marketing, processing, manufacture, sale or other dispositions of agricultural products, agricultural waste products, or agricultural compost, … or the purchase of supplies for producers of agricultural products.” CCL § 15.

Non-agricultural

• Example: cooperative apartment building

Management of Cooperatives• Analogous to business

corporations– Few differences

• Owned by members (vs. shareholders)• May be formed with or without capital

stock (returns are limited under the law)

• Democratically controlled – One member = one vote; or– Proportional voting system

– Like corporations, managed by a Board of Directors, elected by the members

Trusts• Vocabulary

– Creator– Trustee – Beneficiary

• Trusts are another form of business entity for food and agriculture businesses and can be utilized in a variety of scenarios

• Can also be a useful estate planning tool

2 Basic Trusts

Revocable Trusts

• Trusts should almost always be revocable• Retain control of all the assets in the trust• Example: Living Revocable Trust

Irrevocable Trusts

• Can be beneficial in limited circumstances, such as Medicaid• Assets are no longer yours and you cannot make changes without the beneficiary’s consent• Appreciated assets are not subject to estate taxes• Example: Irrevocable life insurance trust

Example of Revocable Living Trust

• A farm family who wants to give their child livestock, land, and/or cash property in the from of a trust– Graduated control (age 22, 26,

30)– Could open up own bank

account– Name on registration papers

for livestock had to be in the name of the trust

Example of Revocable Living Trust

• Grandparents put the farmland in a RLT– Grandparents are the trustees– Children are the beneficiaries– Grandchildren are the contingent

beneficiaries• Like a LLC or corporation, trusts have

to maintain various formalities• Big advantage with trusts: passes by

operation of law and avoids probate– Private– Transfer is automatic –this is helpful if

the farm is involved in federal farm programs

Examples Specialized TrustsTestamentary Trusts

• Created in a Last Will and Testament

Credit Shelter Trust (a/k/a Bypass or Family Trust)

• Also created in a Last Will and Testament • Bequeath an amount to the trust up to but not exceeding the estate-tax exemption; then pass the rest of the estate to your spouse tax-free• Forever free of estate tax, even if it appreciates

Generation-Skipping Trusts (“Dynasty Trust”)

• Allows one to transfer a substantial amount of money tax-free to beneficiaries who are at least two generations younger (i.e., grandchildren)

Pet Trusts

• For the benefit of companion animals, including horses

Not-for-Profit Corporations• A nonprofit corporation doesn’t mean

that the entity doesn’t make profit – its profit is just not distributed with the shareholders/owners– Not-for-profit does not mean no profit!

It’s okay to make money– Can pay employees a salary like any

other type of business– Restrictions and oversight on how

money can be spent– Corporate formalities similar to for-

profit entities– Filing fee in New York is $75 for the

Certificate of Incorporation– Must also comply with federal tax code

Not-for-Profit Corporations

• Like for-profit corporations, it must have Bylaws– Examples of Bylaws for

farmers’ markets can be found on the Farmers Market Coalition website

– Should be drafted broadly, but should include:• Purpose• Board of Directors• Methods of operation

Tax Exempt Status• Forming a not-for-profit corporation is a two step process

– Step 1 is filing papers with the NYSDOS• Trade associations need approval from the NY Attorney General first

– Step 2 is filing papers with the Internal Revenue Service if the not-for-profit organization seeks tax-exempt status• Not all not-for-profits are eligible for 501(c)(3) status (charitable

organizations)• Misconception that a a not-for-profit has to be a 501(c)(3)

• Forming a not-for-profit corporation is much more complicated than forming a for-profit corporation

Tax Exempt Status

• Food and agriculture organizations have 3 primary choices in becoming a tax-exempt organization– 501(c)(3)-Charitable organization– 501(c)(4)– 501(c)(5)

• These are sections in the tax code under 26 United States Code (“USC”).

• Section 501(c) enumerates the list of tax exempt organizations

501(c)(3) – Charitable Organizations

“Corporations, and any community chest, fund, or foundation, organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary, or educational purposes, or to foster national or international amateur sports competition (but only if no part of its activities involve the provision of athletic facilities or equipment), or for the prevention of cruelty to children or animals, no part of the net earnings of which inures to the benefit of any private shareholder or individual, no substantial part of the activities of which is carrying on propaganda, or otherwise attempting, to influence legislation (except as otherwise provided in subsection (h)), and which does not participate in, or intervene in (including the publishing or distributing of statements), any political campaign on behalf of (or in opposition to) any candidate for public office.”

(Emphasis Added)

Charitable Deduction

• Being able to form a 501(c)(3) offers several advantages for a not-for-profit organization, primarily that donations will be considered charitable contributions

Example: New York Agri-Women

• I am the Founding Member of New York Agri-Women.

• Its purpose is three-fold. To educate:– The fellow agriculture

community – Consumers – Elected Officials

• Are we eligible for 501(c)(3) status?

501(C)(4)- Civic Organizations

“(A) Civic leagues or organizations not organized for profit but operated exclusively for the promotion of social welfare, or local associations of employees, the membership of which is limited to the employees of a designated person or persons in a particular municipality, and the net earnings of which are devoted exclusively to charitable, educational, or recreational purposes.(B) Subparagraph (A) shall not apply to an entity unless no part of the net earnings of such entity inures to the benefit of any private shareholder or individual.”

(Emphasis Added)

501(c)(5)- Labor, Agriculture or Horticulture Organizations

“Labor, agricultural, or horticultural organizations.”• Usually designed to encouraged

improvement in animal breeding and farming.

• Can promote agriculture, horticulture and civic activities among rural residents

A Word on Farmers’ Markets

• It seems like the 501(c)(5) is the natural choice for most farmers’ markets

• Importantly, contributions made to a 501(c)(5) are not tax deductible as a charitable contribution– Tax deductible as an ordinary

business expense• Market Manager is usually paid a

salary from the not-for-profit corporation

501(c)(6) Business League Exemption

“Business leagues, chambers of commerce, real-estate boards, boards of trade, or professional football leagues (whether or not administering a pension fund for football players), not organized for profit and no part of the net earnings of which inures to the benefit of any private shareholder or individual.”

(Emphasis Added)

Oh, P.S. – I Just Wrote a Book

Cari B. Rincker & Patrick B. Dillon, “Field Manual: Legal Guide for New York Farmers & Food Entrepreneurs” (2013)

Available at http://www.amazon.com/Field-Manual-Legal-Farmers-Entrepreneurs/dp/1484965191

Also available on Kindle

Please Stay in Touch• Send Me Snail Mail: 535 Fifth Avenue, 4th Floor, New

York, NY 10017• Call Me: (212) 427-2049 (office)• Email Me: [email protected]• Visit My Website: www.rinckerlaw.com • Read My Food & Ag Law Blog: www.rinckerlaw.com/blog• Tweet Me: @CariRincker @RinckerLaw• Facebook Me: www.facebook.com/rinckerlaw • Link to Me: http://www.linkedin.com/in/caririncker • Skype Me: Cari.Rincker