Can Law Firms Incorporate: Everything You Need to Know
Can law firms incorporate? Yes, but the answer to what type of incorporation options are available will vary based on the state.3 min read
Can law firms incorporate? Yes, but the answer to what type of incorporation options are available will vary based on the state. For example, many states allow a solo attorney to form a PLLC, or a Professional LLC. However, this is not an option for attorneys in California. In this state, solo attorneys have two options — a sole proprietorship or a professional corporation.
Sole Proprietorships and Partnerships
A sole proprietorship is the simplest of business structures. It is straightforward in that the business is owned by one individual. There is no need to file special forms with the state, although you are required to have all necessary permits and licenses. The potential downside of a sole proprietorship is the fact that the owner is the one who remains personally liable for all debts. Income from a sole proprietorship is reported on personal income tax returns.
In addition to the downside of liability, you also have to pay your own self-employment taxes. Regular businesses have to pay payroll taxes for Medicare and Social Security funding. Self-employment taxes are the equivalent for a sole proprietor.
Partnerships are business structures that have two or more people as business owners. It may be a general or a limited partnership, both of which are typically governed by a partnership agreement that dictates each partner's obligations and responsibilities. Like sole proprietorships, partners are liable for the business's obligations in a general partnership.
Depending on what state you're located in, you may be able to form a limited liability partnership or LLP. Only some professions can qualify to be an LLP. This structure may offer some personal liability protection from the acts of another partner.
LLCs and Corporations
With an LLC, members are protected from personal liability for debts and acts of the business, much like a corporation. The difference is that an LLC has the option to be taxed either like a partnership or like a corporation. Operating agreements help set forth the rights and responsibilities of the LLC and how it will be operated. Depending on your state, it may not be allowed to operate a law firm as a limited liability company.
With a corporation, the business is treated as a separate entity with limited liability. A corporation is owned by shareholders and is designed for perpetual existence. It's mandatory to prepare bylaws that will govern how the corporation operates. A professional corporation, where allowed, will also provide some limited personal liability for shareholders. There is a drawback if you opt for a professional corporation in California, as the liability protection does not cover acts related to professional malpractice. The liability limitation is designed to protect from issues like a slip and fall at the office, for example.
For tax purposes, a corporation is taxed on its profits and then shareholders are taxed when dividends are distributed. If it meets certain criteria, a traditional corporation can elect to be taxed as an S corporation, which passes income and losses through to its shareholders.
There are more strict guidelines with a corporation, and the state tax board usually assesses an annual fee for maintaining one.
Steps to Incorporate a Law Firm
- Pick a name.
- Prepare and file your Articles of Incorporation with the applicable secretary of state.
- Prepare a corporate records book where you will store important documents like meeting minutes, bylaws, and any additional stock certificates.
- Write your bylaws, which needs to include certain clauses for a law corporation that covers how to sell and transfer corporate stock. The reason for this is nonlawyers cannot own a corporation that engages in the practice of law.
- Appoint corporate directors. For a solo attorney, this individual would be the president, secretary, and treasurer. For two or more attorneys, the duties can be split.
- Hold your first board meeting and take minutes.
- Appoint officers, which is done at your initial board meeting.
- File a notice of stock transaction form, which must be filed by a new corporation within 15 days after the initial sale of securities.
- Issue stock. Remember that attorneys cannot be partners with non-attorneys, so it must contain a transfer restriction.
- Register with the state bar.
You must also maintain your corporation by holding regular meetings. Additionally, you must keep ongoing financial records. If you fail to adhere to the rules for a corporation, you will not be able to take advantage of the benefits and liability protections afforded by a corporate structure.
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