Let’s start from a little disclaimer: corporate formalities can be and in many cases are a rather complex topic. This article attempts to capture the most basic scenarios which are also the most common ones. That being said, we always recommend to consult a corporate/business attorney, licensed to practice law in the state of your corporation’s registration, who will be in a best position to offer advice on specific formalities that might be required for corporations registered in that state.
Examples of the more complex cases requiring corporate attorney attention are mentioned in the end of this article. Also, this article deals with for-profit corporations only.
And now lets proceed to the basics.
One of the advantages of the LLC over corporation has to do with LLC structure and company formalities, both being less complex than corporate structure and formalities. As such, many states do not even require LLCs to have Operating Agreements, though it is a good practice to always have one in place. Corporations on the other hand are required to have Bylaws and Minutes of Initial Meetings in almost all states.
Corporation is an entity separate from its owners, and has a three-level structure: it is owned by shareholders, managed by board of directors, and it’s day to day operations are run by officers.
Below you can see the roles involved, as well as the steps that are typically taken in order to properly establish a standard corporation. The steps don’t have to be in that order – there is typically a degree of freedom in terms of what is done first.
A person or a group or persons who decide to form a corporation (typically future owners of the corporation) appoint someone – a person or an organization – to act as the Incorporator of their new corporation. For example, our in-house incorporators representing our company act as Incorporators on most corporations that our company forms on behalf of our clients.
The role of an Incorporator officially ends when the corporation is registered with the state, and the Incorporator issues a Letter of Resignation, naming the initial Directors of the corporation.
A board of directors is a body of elected members (Directors) who jointly oversee the activities of a corporation. Board of Directors is elected by the vote of Shareholders (though initial board is appointed by the resigning Incorporator), and part of the responsibilities of the board is to appoint corporate officers and issue shares of stock.
Initial Board of directors is listed in the Letter of Resignation of the Incorporator, and this initial board is responsible to adopt the governing document of the corporation – the corporate Bylaws – as well as make first decisions involving initial issue of stock and sale of this stock to shareholders, as well as appointing corporate officers. For that purpose the First Meeting of Board of Directors takes place and its summary is recorded in the document called “Minutes of the First Meeting of Board of Directors”.
Shareholders are owners of the corporation, who typically contribute money or other tangible or intangible value to the corporation in exchange for corporate shares of stock.
Shareholders can be individuals or organizations, such as other corporations, LLCs, trusts, etc. To become a shareholder one needs to purchase shares of the corporation either from a new issue of stock (which is authorized by the Board of Directors), or through purchase of existing shares from other shareholders.
The first issue of stock takes place during the initial meeting of the Board of Directors. Directors agree on the size of the issue (number of shares) and price per share. Each shareholder is then given a Bill of Sale in exchange for the monetary or other value, and their shares are added to the Stock Ledger.
After the first issue of stock, new shareholders hold the Initial Meeting of Shareholders, during which they elect a new Board of Directors (or confirm existing one), as well as approve the list of Officers appointed by the Board. The summary of this meeting is recorded in a document called “Minutes of the First Shareholder Meeting”.
Corporation’s day-to-day operations are run by corporate officers. The titles and roles of Officers are often defined in the corporate bylaws, and typically each corporation has at least a President, Vice President, Secretary and Treasurer, or the equivalent roles, such as CEO (Chief Executive Officer), CFO (Chief Financial Officer), etc.
In most states the same person can be a shareholder, a director, and fill all officer roles. Some states have more strict requirements, for example some require that the President and the Secretary be different persons.
Articles of Incorporation are filed with the state of registration by the Incorporator. Articles include basic information required by the state statutes that provide certain information on the corporation: its name, the name (and, in many cases, address) of the Registered Agent, name of the Incorporator and more. Some states require listing business and/or mailing addresses, names and addresses of corporations initial directors or officers, etc. Articles are executed (signed and dated) by the Incorporator prior to filing with the state.
An important piece of information typically appearing on the Articles of Incorporation is related to shares. Many people get confused here, since the Articles require listing the number of Authorized Shares, and in some states also a parameter called “Par Value“.
Let’s try to clear out what each of those terms mean, and how they compare with other important terms – Issued Shares and Issued Price:
This number of shares is listed on the Articles of Incorporation only, and this is a theoretical number – its real meaning is this: the Board of Directors is not allowed to ISSUE more shares that it is AUTHORIZED on the Articles. So in case more shares need to be issued than there are Authorized on the Articles, the Articles need to be amended first to reflect a bigger authorized number.
This dollar value is another theoretical number – it indicates the minimum amount in US$ that the Board of Directors is authorized to charge the new shareholders for the newly ISSUED shares. Again, if the Board wants to issue shares at cheaper value than Par Value the Articles need to be amended first.
When you choose to authorize stock with “NO PAR VALUE” this means the stock has no fixed minimum price. The directors can determine a price for the stock whenever they decide to sell it, which allows for maximum flexibility.
Those are the real shares issued by the Board of Directors and sold to the shareholders at ISSUED PRICE. This is done after Articles where filed and the initial issue of shares is done during Initial Meeting of Board of Directors (if you order our Bylaws & Minutes service we will document this part for you at that time).
This is the actual price shareholders are paying for the issued shares.
Lets look at this example: a corporation XYZ, Inc. was incorporated with 1,000,000 Authorized shares and $0.001 Par Value. Board of Directors has issued 500,000 shares at $0.01 per share during the initial meeting. Those numbers fall well within the authorized number of shares and above the par value, so this issue is correct, leaving 500,000 more future shares to be issued.
However, during the second meeting, directors were required to issue 1,000,000 more shares at $0.00001 issue price per share, which they were not authorized to do per Articles of Incorporation. To solve this problem the Board has authorized an amendment of Articles with the state changing the number of Authorized shares to 10,000,000 and changing par value to No PAR VALUE. After this amendment the Board was able to issue the necessary additional shares at the desired issue price.
Corporate Bylaws is a legal document that defines a corporation’s purpose, how it will run its affairs, and the duties and responsibilities of people who own and manage it. When you incorporate, you define some of these concepts in your Articles of Incorporation, but Bylaws take it to the next level.
The content of corporate bylaws varies, but typically includes the time and place for meetings of officers, set up of the board of directors, officers and committees, and any other provisions deemed necessary. Because the Board of Directors is the primary governing body of the corporation, this section would cover its composition and the number of directors. It would also discuss the length of a director’s term and how vacancies are to be filled. There would be job descriptions for the officers (i.e., President, Vice President, Secretary, Treasurer, etc.). The same goes for any committees – there would be clear direction about the composition of committees and their role in the corporation.
In addition to that the bylaws would discuss meetings of directors and shareholders, and define whether these meetings will be annual, quarterly or at some other pre-set time. The bylaws must also lay out the time and place of the meetings, attendance requirements and how many board members are needed for a quorum (the number of directors needed to vote on a decision).
What bylaws typically do NOT cover is the personal information on the actual individual shareholders, directors or officers, number of shares issued, or any other information of that kind. Such information would be listed in the Minutes of Meetings, Stock Ledger and Bills of Sale.
Meetings of board of directors and meetings of shareholders constitute an important part of corporate formalities. The corporate bylaws define how frequently periodic meetings should take place, as well as the rules of special meetings, in case the matter at hand requires one.
The summary of each meeting is recorded in the Minutes of a Meeting by the corporate secretary. Those Minutes should be filed in the corporate records, and copies distributed to all participants.
Most notable are the initial meetings that take place during the formation of the corporation. During the initial meeting, board of directors adopts the corporate documents such as bylaws and articles of incorporation, as well as corporate seal, issue the first shares of stock and sell them to the initial shareholders, and finally elect the officers of the corporation. During the consequent initial meeting, shareholders elect a new permanent board of directors and confirm the appointment of the officers.
This letter is issued by the Incorporator and it lists the names of initial directors of the corporation, as well as statement by the Incorporator that all formalities of registering the corporation with the state of registration are completed and Incorporator resigns from his or her position.
Bill of Sale is a document issued by the Board of Directors authorizing the sale of the corporate shares. Bills of Sale are issued to all shareholders buying shares of stock during a new stock issue. This is different from any purchase agreement negotiated between shareholders who sell existing shares.
Any new issue of shares, transfer of shares from one shareholder to another, or any other event involving creation, destruction or movement of shares of stock is recorded in the Stock Ledger. It is important to maintain a properly updated Stock Ledger in the corporate records as another evidence of stock ownership in the corporation (besides minutes and bills of sale).
A corporate resolution is a corporate action, typically in the form of a legal document, that is voted on at a meeting of the board of directors. The resolution could be on just about any subject, but one common subject is to define which individuals are authorized to act on behalf of a corporation to open accounts with financial institutions such as banks. This form of corporate resolution is also required by title agencies when selling corporate owned real estate. The form and structure of this document could vary depending on the state in which the corporation is organized.
A Certificate of Incumbency is a document confirming the identity of the signing officers of a corporation. Sometimes it also confirms the names of directors and shareholders as well as minute book contents. A certificate of incumbency is often used to prove that a particular individual is authorized to enter into legally binding transactions on behalf of a company. A Certificate of Incumbency is also known as an Incumbency Certificate, a Certificate of Officers, an Officer Certificate, a Register of Directors, and as a Secretary Certificate.
If you are looking to make changes in your corporate structure that involve issuing new shares, changing directors or officers, or transferring shares from one shareholder to another, you don’t need to amend the bylaws. Those changes are typically done by calling for a meeting (shareholder meeting when making changes to the board of directors, or directors meeting when issuing new shares or appointing new officers). Such meeting is then recorded in the minutes of meeting and those changes become official. Transfer of shares is typically done via a purchase contract, but such changes often also require approval of the board.
It is important to ensure that all meetings are properly organized, executed and recorded, based on the rules written in the corporate bylaws, just as it is important to ensure that bylaws are kept current and corresponding to the latest laws of the state of incorporation. We always recommend retaining a corporate attorney who can ensure that your corporate bylaws are current (if not, devise proper amendment procedures), and that meetings are performed and recorded correctly.
We covered the most basic and standard topics dealing with corporate formalities, but it is fair to say that we’ve just scratched the surface. Corporate law had centuries to develop, and many states have their own peculiarities, known only to the attorneys practicing corporate law in that state.
Other complexities include the difference between types of stock, as well as other forms of securities. For example, a corporation can issue common stock and preferred stock, as well as create option plans, etc. All those are beyond the scope of this article, and we would recommend you to do a deeper research online, and certainly hire an attorney if you require a more complex structuring of your corporation.
This article is not intended to provide any tax advice or direction. None of information contained on this web site is intended to constitute legal or other professional advice, and you should not rely solely on the information contained on the site for making legal decisions. When necessary, you should consult with an attorney for specific advice tailored to your situation.
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