What types of entities give me the most flexibility for a succession plan?

One of the most significant factors to consider when establishing a business entity is the flexibility it provides for a seamless succession plan. Flexibility enables real estate investors the ability to transfer ownership easily.

Sole proprietorships are very flexible and easy to transfer because owners of sole proprietorships possess personal liability for any and all business assets, debts and liabilities. In order to transfer ownership of a sole  proprietorship, owners must identify and value all of the business’ assets, which can be tangible or intangible (e.g., client lists, machinery, inventory, or company copyrights). The value of business assets is usually evaluated based on book value. It is recommended that owners of a sole proprietorship retain the services of a professional appraiser to ascertain the value of the business’ assets. After determining the value of the business assets, owners must prepare a sales proposal that clearly lays out the business assets for the purchaser and defines the agreed-upon price for the business entity in question. To complete the sale and transfer of ownership, the purchaser should transfer funds for the agreed-upon price, and the owner should transfer business assets to the purchaser. However, it is important to note that the business’ licenses or tax identification cannot be transferred to the purchaser, so owners must close those accounts and the purchaser must apply for new licenses or tax numbers.

In contrast, partnerships are more complicated entities to transfer because ownership has already been defined and calculated by percentage, as stated in the Partnership Operating Agreement. The Partnership Operating Agreement is a form that is usually discussed and filled out at the beginning of the partnership, which allocates percentage of ownership among the partners. To transfer ownership to other existing partners, partners simply distribute their ownership percentage among the others. To transfer ownership to a new partner, partners must calculate their ownership percentage and execute a Buy-Sell Agreement to formalize ownership transfer. Partners must also file two forms with the California Board of Equalization: a Statement of Change in Control and an Ownership of Legal Entities form.

C Corporations (C Corps) are complicated entities to transfer because C Corp ownership is calculated on the number of shares owned within the entity. If a C Corp has shares available to the public that are constantly fluctuating, such as public stocks, then its shares can be hard to define and transfer. However, if a C Corp only has private shares held by its owners, then the owners can buy and sell shares with one another and record the transfers. Depending upon the share amount transferred among owners, buying and selling shares may first require approval by the C Corp’s board of directors or even its own shareholders.

S Corporations (S Corps) are also complicated entities to transfer. S Corps are different than C corporations in that they are strictly limited to 75 owners, and S Corps’ Bylaws (which are created when S Corps are established) may restrict who is allowed to transfer shares. To issue new shares, S Corp owners must first check the Bylaws to determine the total number of allowed shares. The Bylaws will define the total number of allowed shares and the number of currently issued shares. Next, the S Corp’s board of directors must analyze the business entity’s assets and issue new shares at agreed-upon prices. Finally, the S Corp’s owners issue stock certificates to new shareholders and record the transfer in the S Corp’s books. Finally, to sell existing shares amongst shareholders, S Corp owners can buy and sell shares from one another and record the transfers in the S Corp’s books. Depending on the amount of shares, buying and selling shares may require approval by the S Corp’s board of directors or even by its own shareholders.

Finally, limited liability companies (LLCs) are very easy to manage and transfer. Single-member LLCs are treated like sole proprietorships, so their owners already personally own the entity’s assets and can easily sell them. Multiple-member LLCs are more complicated to transfer because the LLC’s Operating Agreements usually specify how ownership may be transferred. LLC Operating Agreements are created when LLCs are established and define the rules for ownership. Because LLC owners possess a percentage of interest in the LLC, they must consult the Operating Agreement to determine how to price, define, and transfer ownership of such interests.

Establishing your business entity with an end goal in mind is a great business strategy. Future opportunities may come along to sell or even attract investors and sell shares in your company. It’s best to walk through these scenarios with a knowledgeable and experienced business law attorney so you can plan now for the future.  Contact Kendall Law at (310) 619-4941 for a consultation.