Subchapter C of Chapter 1 of the Internal Revenue Code is where you find general tax rules affecting corporations and their shareholders. Unlike sole proprietors and partnerships, C corporations pay income tax on their profits. C corporations use IRS Form 1120 or 1120-A, U.S. Corporation Income Tax Return, to report revenue to the federal government. The corporation and the employee each pay one half of the Social Security and Medicare taxes, but this is usually a deductible business expense.
Advantages: With a C corporation, shareholders’ personal assets are protected from the debts and liabilities of the company. Shareholders can generally only be held accountable for their investment in stock of the company. C corporations have the ability to raise funds through the sale of stock. Owners of a C corporation only pay taxes on corporate profits paid to them in the form of salaries, bonuses, and dividends, while any additional profits are awarded a corporate tax rate, which is usually lower than a personal income tax rate. C corporations can offer employees partial ownership through stock options and thus attract high-quality workers.
Disadvantages: A C corporation is a more costly and time-consuming structure to use than the other options. Incorporation requires startup, operating, and tax costs that most other structures do not require. Because C corporations are highly regulated by federal, state, and in some cases local agencies, there are increased paperwork and recordkeeping requirements associated with this business structure. And C corporation owners are usually taxed twice: once when the C corporation makes a profit, and again when dividends are paid to shareholders.
S Corporation
Definition: What makes an S corporation different from a C corporation is that profits and losses can pass through to your personal tax return. The business itself is not taxed—only the shareholders are taxed. The shareholders must be paid fair market value, or the IRS might reclassify any additional corporate earnings as “wages.” For shareholders, liability protection is limited. S corporations do not necessarily shield you from all litigation, such as an employee’s lawsuit as a result of a workplace incident.
Formation: To file as an S corporation, you must first file as a C corporation. After you are considered a corporation, all shareholders must sign and file Form 2553 to elect your corporation to become an S corporation. Once your business is registered, you must obtain the usual business licenses and permits. You can request S corporation status for your LLC. Your attorney can advise you on the pros and cons of doing this. You’ll have to make a special election with the IRS to have the LLC taxed as an S corporation using Form 2553, filing it before the first two months and fifteen days of the beginning of the tax year in which the election is to take effect. The LLC remains a limited liability company from a legal standpoint, but for tax purposes it’s treated as an S corporation.
Taxes: States do not tax S corporations equally. Most recognize them similarly to the federal government and tax the shareholders accordingly, but some states (like Massachusetts) tax S corporations on profits above a specified limit. Other states don’t recognize the S corporation election and treat the business as a C corporation with that tax structure. Some states (like New York and New Jersey) tax both the S corporation’s profits and the shareholder’s proportional shares of the profits.
Advantages: While members of an LLC are subject to employment tax on the entire net income of the business, only the wages of the S corporation shareholder who is an employee are subject to employment tax. The remaining income is paid to the owner as a “distribution,” which is taxed at a lower rate, if at all. An S corporation designation allows a business to have an independent life, separate from its shareholders. If a shareholder leaves the company, or sells his or her shares, the S corporation can continue doing business relatively undisturbed.
Disadvantages: S corporations require scheduled director and shareholder meetings, minutes from those meetings, adoption and updates to bylaws, stock transfers, and records maintenance. A shareholder must receive reasonable compensation. The IRS takes notice of shareholder red flags like low salary/high distribution combinations, and may reclassify your distributions as wages.
Cooperatives
Definition: This structure is a business or organization owned by and operated for the benefit of those using its services. All profits and earnings generated by the cooperative are distributed among the members, also known as user-owners. Usually, an elected board of directors and officers operates the cooperative while regular members have voting power to control the direction of the cooperative. This is one of the more complicated business structures and anyone reading this book to start a microfarm is unlikely to use it, so I’m not going to explain it in more detail here. You should consult a business attorney if you are interested in this option.
What’s in a Name?
The naming of my microfarm was accidental. After I decided to use five-gallon pots for many of my superhot chile plants, I realized that I would need a soil expander, namely perlite, a naturally-occurring amorphous volcanic glass that when heated turns into very light, inert granules that prevent soil-packing in containers. And I needed a lot of it, but the product is expensive in the small bags sold by the big box home centers. I decided that I needed an account at a wholesale supplier. When I opened one, I thought of the name “Sunbelt Microfarm” on the spot.
The first step in establishing your brand is to give it a name. Hopefully, you will spend longer thinking about it than I did, because your identity—what other people call you—is more important than you think. Face it, “Dave’s Farm” is not an imaginative name at all, nor is “DeWitt’s Farm.” They both sound too small and a little amateurish. You want a farm name that sounds substantial and a little impersonal, but memorable. There’s a small farm here in the South Valley called “Red Tractor Farm,” and I like the whimsical nature of the name. I thought about changing the name of mine to “No Tractor Farm,” but I didn’t want anyone to think that I was using a mule and a plow.
Since you have to plan ahead, even from the very beginning, you should think about what you might call some value-added products. Does Sunbelt Microfarm’s Pickled Superhot Chiles have a ring to it? Sort of, but if someone’s not already using it, Sunbelt Pickled Superhot Chiles is stronger and better. It is also possible to have an overall company name, and then a different brand name or names for your products. For example, an exhibitor in our National Fiery Foods & Barbecue Show, Apple Canyon Gourmet, has differently named brands because they bought several failing companies and turned them around. They didn’t want to rename the products because they were already branded.
And you want to avoid triteness. Because the Sandia Mountains hover over the city of Albuquerque, there are many, many businesses with the name “Sandia” in them. So many, in fact, it’s become both trite and absurd, once you understand what “sandia” means in Spanish. Near sunset, the low sun in the west causes the west-facing slopes to have a distinct reddish tint that is exactly the color of the flesh of a watermelon, and that’s precisely what “sandia” means. The translation reveals the absurdity of calling your business the “Watermelon Mental Health Clinic.” Likewise for “Watermelon Dog Obedience Club,” or “Watermelon Crust Pizza Company,” which is a pun on the highest point of the Sandias, Sandia Crest. Often, regionalism is confusing and is not a good thing.
My mentor, the late, great Frank Crosby, was a show producer too and would never in a million years have called his business “Sandia Entertainment Company”—he had a much larger vision than that. He named it the Entertainment Corporation of America. Before you say that the name is a bit grandiose for a small Albuquerque company, I should point out that Frank had once been a standup vaudeville comedian who always told jokes like, “Did you hear the one about the farmer’s daughter who sits among the beans and peas?”
My point here is to think big. If your microfarm is in the Midwest, I plead with you not to call it “Little Microfarm on the Prairie.” It’s clever, but make it a brand for your products rather than your company name. Likewise for “Pacific,” “Rockies,” “Bayou,” and so on. Think more symbolically than locally—that’s why I chose Sunbelt Shows, Inc. for my corporate name. It says what the company does primarily but is deliberately