Choose the initial board of directors

The board of directors is a collection of one or more people that governs the corporation and makes major policy and financial decisions for the company. For example, the directors authorize the issuance of stock in the company, appoint officers, and approve loans and other significant financial matters. All states require corporations to have a board of directors. Many states permit just one director, which could be fine for a small farm operation. However, it can be beneficial for the business overall to have others offering advice and different perspectives. Many business experts recommend having an odd number of directors and some go further to recommend that five, seven and nine are magic numbers. The odd number prevents deadlock votes and the five through nine
range provides a variety of perspectives, yet not too many opinions. Keep in mind that directors will need to abide by a fiduciary duty to the company (i.e., a duty of care and a duty of loyalty). This basically means that they can’t whimsically make decisions; rather, they have to act with diligence and care. It also means they have to act primarily in the interest of the company and not their own interest. To help reinforce this, you should require directors to follow a strict conflict of interest policy that specifies that they cannot vote on a matter that affects their personal interests. For example, a director who is also the president or CEO should not be able to vote on the amount of their salary. Be sure to keep this in mind when deciding whom your initial directors will be.

Select and appoint a registered agent

A registered agent is the person on file for the public and the government to contact regarding the corporation. For example, the registered agent is the individual who is notified if the corporation becomes a party in a legal action. This is called service of process. A registered agent can be an officer or employee of the company, but is more often a third party such as the corporation’s lawyer or a service provider who takes on this role for a small fee.

Draft and file the articles of incorporation

The corporation must draft and file articles of incorporation with the state agency that handles entity formation, which is usually the secretary of state office. The articles of incorporation can be drafted either by the business owner with the help of an attorney or entirely by an attorney. The articles of incorporation are publicly available documents and often include only the basic details about the corporation that are required, such as the corporation name, the name and address of a registered agent, a corporate purpose (the general objectives of the business), and the names and addresses of directors and officers.What is required can vary from state to state. A quick internet search should bring up the website of the state agency that handles this in your state, which will specify the information you need. Many state agencies have an articles of incorporation form on their website that a business can use and adapt for their needs.

Many states also require you to designate the number of authorized shares or stock to be issued. Deciding on the exact amount could be tricky, though many say it’s actually quite arbitrary. The shares are the ownership interests in the company. Let’s say the company authorizes 10 million shares. If there are two owners, each with 50 percent interest, they each get 5 million shares. It’s advisable to consult with an attorney in your state to be sure the number you designate is proper and recommended for your particular farm operation. It could impact how you raise money or get financing in the future.

The articles will also need to include the name of the incorporator. An incorporator is an individual who organizes and arranges for the articles of incorporation to be filed with the secretary of state. The incorporator must verify that all the included information is true and correct, and must sign the articles of incorporation. The incorporator can be a shareholder, director or officer of the corporation. It is often the lawyer who is handling the formation of the corporation. While the incorporator is distinct from the registered agent, one person may serve as both.

A corporation does not exist until the date its articles of incorporation are filed and then approved by the state agency. Approval can take anywhere from one day to one week from the time of filing. The articles of incorporation form can generally be submitted online, along with the required fee. If there is no form, the articles of incorporation will likely need to be mailed in. Each state charges different fees, which vary from $25 to $1,000. In addition, most states require an annual fee to maintain the corporation, which is generally less than the fee to create the corporation. The initial directors should review the articles together to be sure everything is accurate before filing. Note that the information on the articles of incorporation may be changed at any time by filing amended articles.

Draft bylaws

In addition to the articles of incorporation, state corporation statutes also require corporations to have bylaws. The bylaws are a private document, or in effect a contract, that sets the ground rules among the shareholders, directors and officers for how the corporation must be governed. They include procedural guidelines for corporate governance (e.g., shareholder meetings, board of directors meetings, etc.). There are two overarching principles for bylaws. First, like any legal document, they should be clear and precise to avoid challenges in interpretation down the road. Second, they should be consistent with all applicable state laws. In effect, any provision in the bylaws that runs counter to a state law will be deemed unenforceable. And, any action made pursuant to an unenforceable provision will be deemed invalid. Having unenforceable provisions and invalid actions is not good business practice for obvious reasons!

Like the articles of incorporation, the bylaws can be drafted by the business owner(s) with the help of an attorney or entirely by an attorney. Keep in mind that state corporation statutes often set specific parameters regarding certain corporate governance matters that are typically included in bylaws, such as when and how shareholders must be informed about annual meetings, items that must be voted on at annual meetings, how voting must take place, restrictions on who can decide what, etc. These details can vary from state to state. So, if you decide to draft your own bylaws, be sure to check your state’s corporation statute or consult with an attorney who is familiar with your state’s statute to ensure that your bylaws are fully in compliance with state law. The bylaws don’t need to be filed with the state, but they must be officially adopted by the board of directors.

Hold your first organizational meeting with the board of directors

Next, the board of directors should hold an organizational meeting. At this meeting, the directors should first officially adopt the bylaws. Then they should elect the initial officers. The officers are responsible for the day-to-day management of the company. Officer positions include a president or chief executive officer (CEO), a vice president or chief operations officer (COO), a
treasurer or chief financial officer (CFO), and a secretary. A director can serve as an officer, and one person can serve multiple offices. Like directors, the officers owe a fiduciary duty to the company (i.e., a duty of care and a duty of loyalty). Be sure to keep this in mind when deciding who the initial officers will be. After the officers are elected, the directors should also officially approve the issuance of shares or stock in the company. In addition, if the corporation will be an S corporation (i.e., elect S corporation federal tax status), the directors should approve the election at this time. Be sure to follow the voting parameters set forth in your bylaws when voting on these matters. Also, written minutes must be kept for this organizational meeting and all meetings held by the board of directors and shareholders to provide evidence of what happened should a dispute or issue ever arise.

Issue stock to the founding shareholders

Before engaging in any business activity as the corporation, you should issue shares of stock to the founding shareholders. This is the formal process of dividing up the ownership in the company. It is also required by law if you are doing business as a corporation. Issuing stock can be complicated; it could involve adherence with complex securities laws at both the state and federal level. Farm Commons strongly recommends that you have an attorney who is familiar with corporate and securities law handle the stock issuance for you. When you’re ready to issue the actual shares to your founding shareholders, you’ll need to put in writing the following: the initial shareholders’ names and mailing addresses, the number of shares each shareholder will purchase and how each shareholder will pay for their shares (i.e., cash, property or services–also known as “sweat equity”). Keep in mind that most states have a minimum amount of stock that can be issued, so check your state’s corporation statute. Some states require that you file a “notice of stock transaction” with your state’s business agency or secretary of state. This is typically a simple form, but it’s important that you file it if it’s required. Otherwise you risk the state saying that the issuance of shares is invalid.

You also have the option of issuing actual stock certificates. This is no longer required in most states, but shareholders have come to expect it, and it provides another layer of evidence of who owns how many shares. If you issue stock certificates, states generally require that you include on the face of the certificate: the name of the corporation, the state where the corporation was formed, the name and number of shares issued to the shareholder and a signature authenticating the document.

Note also that if you plan on electing S corporation tax status, you can only issue one class of stock, which is generally common stock, meaning one vote per share. This information should be included in your bylaws.

Create a shareholder agreement if shareholders want one

While shareholder agreements are not required, they can be useful to set forth specific terms that all shareholders must abide by and follow among each other, particularly with respect to the limitations and process for transferring or selling shares to others. Basically, shareholder agreements could set restrictions to prevent unwanted parties or strangers from acquiring shares in the company. In this way, shareholder agreements can be particularly important in closely held corporations where the shares are held by a small group of people and are not offered to the general public. In addition, shareholder agreements can be a useful way to protect minority shareholders who may fear that their voice will be overpowered. For example, the shareholder agreement could require that all shareholders agree on certain decisions. Shareholder agreements also often include procedures for dispute resolution, which can help keep matters out of court.

Get an Employer Identification Number (EIN) from the IRS

An EIN is the number that the IRS uses to identify the tax accounts of employers and certain business entities like corporations. You can get an EIN immediately by applying online through the IRS website. If you prefer, you can download Form SS-4 on the IRS website and fax your completed form to the service center for your state. They will respond with a return fax in about one week. You will also likely need an EIN to get a bank account for the corporation.

Obtain necessary licenses and permits from state and local agencies

You’re almost ready to open shop as a corporation. But first, you’ll need to obtain any required licenses and permits for running your farm operation. Depending on your farm operation, this could include a business license with your city (i.e., a tax registration certificate), a seller’s permit from your state or a zoning permit from the local planning board. It may be helpful to ask other local business owners what they did when starting their business, or contact the relevant state and city offices.

Follow the bylaws

If you go through the work to outline how the business should handle important matters like decisions, taxes and the departure of a member, it’s very important to follow the document. This gives the business legitimacy in court.

Allocate assets between personal and business ownership accounts

As discussed above, a farm business needs to follow through on creating a corporation by making the division between business and personal. If the farm doesn’t already have a separate bank account, set one up. Farm expenses and payments should only move through the farm account. Of course, if you forget the farm checkbook and use your personal bank card instead, you may pay yourself back.

Next, determine which assets are farm and which are personal. If there are multiple members and each has promised to make an equity investment in the corporation in exchange for stock, each member needs to follow through with his or her promise by officially making the investment. For example, if one member promised to invest $35,000 in cash, then that money needs to be deposited into the corporation’s bank account. If a member promised to invest his or her farm property, then the title of the property needs to be transferred to the corporation.

Overall, a common-sense allocation is probably the best route. This process can be quite simple–there’s no need to detail every feed scoop, hand weeder or trash bin. Making your best guess as to the value of the farm’s various assets and placing them on the farm’s balance sheet is a simple way to document the transfer of assets. If a farm tried to keep all assets personal and leave the farm with nothing, a court would likely not respect the corporation. The allocation must be based in reality and the farm must have enough assets to capitalize the operation.

Document relationships for personal assets used for farm purposes

If you choose to hold ownership of the land with yourself personally, you should document the new relationship with the corporation. If the farm business uses your property, then the farm business has a lease with you, whether one is written or not. Written documents are generally the better choice, and it can be a very simple one-page outline of basic terms such as rental rate, lease term and renewal procedures. Many individuals choose to lease the farmland for a rate equal to the value of the annual property taxes, but each farm has unique needs.

Now is a good time to discuss our objectives in allocating assets and writing leases. At any point in time, a court should be able to determine which assets are the farm’s and which are personal. This is because the farm’s creditors can go after business assets. Thus, we need to know what they are. The court should also be able to determine exactly how and why assets are used for both personal and business reasons. Your documentation can go a long way towards creating an efficient process. If records are a mess and there is no documentation, a court may decide for itself which assets are personal or business and the farm would lose an opportunity to influence the process.

Update websites, brochures, invoices, order forms and other materials with the C corporation designation, if required

State statutes typically require that a corporation use the “Inc.” designation in the name of the business. This signals to potential creditors that only business assets are available to satisfy potential judgments against the business. If you don’t like the look of the abbreviation or you’ve already invested in marketing materials, check with your secretary of state’s office about registering a trade name without the letters. In some states, the county register of deeds handles registration of trade names, so you may need to make a few phone calls. For invoices and other official business, it’s best to include the letters after your name.

Hold your annual shareholder and annual board of directors meetings

State corporation statutes explicitly require that shareholder and board of directors meetings are each held annually. Some states may allow shareholders to approve actions through written consent instead of a meeting in person. This requires that all shareholders sign a document to evidence their agreement. Either way, it’s important that you follow these formalities and either hold meetings or obtain written resolutions in their place. This helps establish the corporation’s legitimacy and preserves the benefits of having an entity.

The board of directors must also meet annually. Board of directors meetings are often held immediately after the annual shareholder meeting where the board of directors is elected for the year. Like the shareholder meetings, board of directors meetings may also be done through consent resolution and written consent, so long as all the relevant details are in writing with signatures of all directors. It may seem silly to follow such formalities, particularly if the farm business has just a few individuals and they are wearing multiple hats, but these formalities are required by law and must be followed to protect the benefits of having an entity.

When holding meetings, be sure to follow the meeting requirements set forth in your bylaws, including having a quorum before voting (the minimum number of shares or people that must be represented for a vote to take place), providing proper notice within the specified time (the invitation to the meeting with precise details) and administering the voting thresholds (e.g., one share, one vote for shareholders and one person, one vote for the board of directors, or whatever your bylaws specify).

Keep minutes at all meetings and keep records of significant business decisions

Many state corporation statutes require corporations to keep accurate minutes to record key decisions and resolutions of the shareholders and board of directors. While some states do not require this by law, courts in all states will look at the minutes if a dispute or legal mishap arises. The meeting minutes provide evidence that the corporation was acting properly in both how the decision was made and what was or was not decided. The minutes do not have to be elaborate; they just need to have enough detail to offer proof of what was decided and why. Not every routine business decision needs to be documented, but any decisions that require formal board or shareholder approval should be recorded. Types of decisions that should be recorded include any decision made at annual meetings, the issuance of new stock, purchases of real property, approval of long-term leases, authorizations for credit and decisions that involve federal or state tax implications.

Keep your corporate binder and stock register up to date

The corporation should maintain a binder that includes the articles of incorporation and any amendments, the bylaws and any amendments, the minutes for annual meetings and special meetings, any written resolutions made outside of a meeting (i.e., with unanimous consent) and any additional records of big decisions. Keeping all these documents in one place makes it easier to refer back to something if an issue arises. Again, it also records that the corporation is properly managing its affairs should a lawsuit arise and the court asks for such evidence. The corporation will also need to maintain a stock register. This register must include information like the names of all the shareholders, their addresses, the number of shares held, the date of certificates issued for the shares, any transfers of stock certificates and any cancellation of stock certificates (i.e., by a shareholder who transfers their stock to another). Generally, it’s maintained by the corporation’s secretary.

Keep accurate and up-to-date accounting records for tax purposes

This includes maintaining an accurate profit and loss statement. Keeping good accounting records throughout the year will help streamline the process of preparing an annual report (which is required in most states and includes financial information) and filing both state and federal taxes.

Fulfill annual obligations, including filing and paying corporate federal and state taxes, if applicable

Your state will likely require you to file an annual report and an annual fee to maintain your corporation. If you neglect these duties, the state may dissolve your corporation. You will also need to file and pay your corporate taxes. If you choose to be taxed as C corporation with the federal IRS (which is the default), the corporation will need to file IRS form 1120. The corporation will also need to distribute employment and dividend tax forms to employees and shareholders. Talk with your accountant or tax preparer or your secretary of state’s office and the IRS for more information on filing corporate taxes.

Elect S corporation tax status with the IRS

Electing S corporation tax status for your corporation is quite simple. You will need to fill out and file with the IRS tax Form 2553, “Election by a Small Business Corporation.” The form should be completed up to two months and 15 days after the beginning of the tax year the election is going to take effect, or at any time during the tax year preceding the tax year it is to take effect. This sounds complicated but the IRS provides examples of how the timing works in the instruction sheet for Form 2553. Farm Commons highly recommends that farmers consult with a tax attorney or accountant before filing these tax forms to be sure the S corporation tax status is the best option.

Make note of and follow any annual obligations to maintain the S corporation tax status

As an S corporation, you’ll have to file the annual Form 1120S with the IRS. This is not a tax return, as the entity does not itself have to pay income taxes. Rather, this is an informational tax document used to report the corporation’s income and losses as well as any disbursements of profits given to its shareholders (i.e.,
dividends to shareholders). Again, the entity itself will not have to pay taxes, as the business’s income passes through to the individual shareholders.

In addition, you will have to provide each of the shareholders with a Schedule K-1. The Schedule K-1 is similar to a W-2, the end-of-year wage statement thatemployees receive from their employers. The Schedule K-1 shows the self- employment income each of the shareholders receives from the company. The corporation must also submit a copy of Schedule K-1 to the IRS for each shareholder. This allows the IRS to be sure that each shareholder is properly
reporting any self-employment income he or she receives from the entity that has S corporation tax status.

Farm Commons recommends that you seek expert tax guidance before filing any of the required S corporation tax forms. Be sure to also abide by all the state income tax requirements for your corporation. The S corporation tax status is only relevant for federal income taxes filed with the IRS.