Three IP Tips for Newly Form SaaS Companies seeking American Investors

An India-based SaaS startup recently engaged us to advise on tax matters.  During our intake, we identified a few “loose ends” in the founders’ approach to “Intellectual Property” (IP).  Because it was early on the business’ evolution, we were able to provide a strategy to “tighten” up those loose ends before they approached American venture capitalists and the IP anything blew up.

If you’re a foreign SaaS founder with a real shot at getting American or Canadian capital, and you have co-founders or employees, here are three (3) strategic steps to consider taking:

(I)Register your Trademarks and Domain Names. 

US Trademark law protects unique marks that you have developed to brand your products and services and patent law protects technical innovations, typically giving you the exclusive use and licensing rights. However, IP ownership is complicated, and wisdom suggests that you consult with experienced counsel.  This is particularly true at the early stages of your startup, because counsel helps you make the strategic decisions at strategic times to optimize protection for your company’s (potentially) valuable IP.

(II) Protect Privacy.

If you are handling personal data of EU citizens, you will need to justify why and explain how.  The GDPR–an EU privacy law–has specific new language and requirements to the existing definition of consent.

(III) Own the Intellectual Property (trademark, algorithm, software, trade secrets, etc.).

As an early stage company, it’s likely a few people contributed to developing IP. So who owns it? It depends. For patents, if there is more than one inventor, there may be more than one owner. However,  ownership can be transferred or reassigned, so there are a few smart strategies to ensure that your company can benefit from IP generated by founders and employees.

How?

• Request that all employees sign confidentiality and invention assignment agreements before they start generating intellectual property.  Failure here has caused serious issues for many companies.
• Ask counsel to execute Assignment Agreements. Even when employees have signed appropriate agreements, your company should execute new IP-specific assignments naming the specific IP to have additional legal weight.

Questions?

If you think we’re the right team to speak with, we have two plans, both fixed-fee, and both tax-deductible.  

First, please take a few minutes to complete this intake form (paste into browser if link unavailable): https://form.jotform.com/91835308503153)

Second, you’ll be invited to schedule a call if we can help you. If you’ve already completed the intake step, skip to the scheduler: https://calendly.com/kwame-dougan).

Check out our short slide presentation about our origins and experience ( https://bit.ly/2HhVXL2)

US Business Tax And Legal Liability FAQ

sales and use tax liability

Key Tax Considerations for New Business Owners

DISCLAIMER. This is not legal or tax advice. Speak to counsel.’

Table of Contents

Intro. 2

Tax Liability 2

Legal Liability 2

Income Tax and your LLC. 3

Step 1: Are you a US person or a foreign person?. 3

Step #2 Determine your entity classification. 3

Sales Tax Liability for Remote Sellers (FBA/Drop Shippers) 4

Table of Sales Tax Models. 4

Are you at risk?  The following questions will help you determine when and where sales tax is owed, and whether or not a reseller certificate should be submitted. 5

The New York Question. 5

Multi-state transactions  sales and use taxes 7

Who has a duty to collect and pay sales and use taxes?. 7

Sales and Use Tax Registration. 7

Intro

As a business registered in, operating in, or selling to Americans, you’ve got two pressing considerations: Tax Liability and Legal Liability. Outside of having no sales, these risks are the #1 killers of small business.  We’ll walk you through key considerations that you should discuss with legal counsel.

Tax Liability

You have the power to decide how you want to be taxed and there are also things that you can do to help reduce, or even eliminate, the tax that you pay.

The Internal Revenue Service (IRS) is responsible for collecting federal income tax revenues and enforcing federal income tax laws.[1] In addition to the federal income tax, each of the 50 states and the District of Columbia impose some or all of the following: individual income tax, corporate income tax, sales tax, real estate transfer tax, gross margin tax, and franchise tax.

You likely established a US business in one of a few states.

Most states have a corporate income tax that works in conjunction with federal income tax law, and those taxes are generally lower than the federal income tax. However, sales and other taxes imposed by states and localities can vary greatly and may play an important role in determining how an investment should be structured.

Legal Liability

As a business owner, one of your biggest dangers is a lawsuit.  Even if you could win, your priority should be avoiding this at all costs.  The next best thing to avoiding lawsuits, is to make sure that if you are sued, you don’t lose absolutely everything that you own.

Income Tax and your LLC

If your US pass-through entity generates revenue from sales inside and outside the US.   You may have income tax and sales tax obligations. Here’s a two-step process to assess your exposure at the federal tax level.

Step 1: Are you a US person or a foreign person?

Step #2 Determine your entity classification.

Generally, a US business entity will have one of the following default classifications:

• A “C” corporation. All US corporations are “C” corporations by default.
• A partnership. These are non-corporate business entities with more than one owner.
• A disregarded entity. These are non-corporate business entities with one owner, such as single-member limited liability companies (LLCs).

Generally, non-US persons and non-residents are taxable only on their US source income. If you have a pass-through entity, such as an LLC, you’ll have to arrive at adjusted gross income by starting with gross income, subtract certain deductions, such as trade or business expenses,  and unreimbursed business expenses, for taxable income.

Sales Tax Liability for Remote Sellers (FBA/Drop Shippers)

Many states are attempting to tax the popular Fulfillment by Amazon (FBA) and drop shipping business model. Used by remote/online sellers (i.e. retailers that sell over the internet) by enacting sales tax laws that have become known as the “Amazon Laws” or “Click-Through Nexus” provisions.

Table of Sales Tax Models.

For smaller businesses, the myriad of differing regulations carries a very high risk of sales tax errors; sales tax errors lead to more aggressive audits and expensive fines and penalties.  Moreover, this scenario is expected to get worse before it gets better if a federal proposal to allow states to require out-of-state sellers to collect sales tax becomes law. Under the Marketplace Fairness Act, states that don’t currently require out of state manufacturers, distributors, wholesalers, or drop shippers to collect sales tax would likely begin to.

Are you at risk?  The following questions will help you determine when and where sales tax is owed, and whether or not a reseller certificate should be submitted.

1) In a drop shipping scenario, when is there a sales or use tax obligation?

2) Do states consider drop-shipping a nexus-creating activity?

3) Do you have a valid resale certificate?

Generally, businesses must have a nexus to the state to be liable for sales and use tax.  However, the definition of nexus isn’t clear cut.  Let’s take a look at New York for example.

The New York Question

As an attorney that practiced litigation in New York, I was in my element when the question of liability turned on the “substantial nexus” issue.     An out-of-state seller must have substantial nexus with New York before it can be required to collect sales tax.  Although New York’s standard requires that some amount of physical presence is required to establish substantial nexus, some New York courts have interpreted that standard so liberally that virtually any form of physical presence within New York, combined with sales within New York, can create nexus for an out-of-state seller.

Activities that could give rise to substantial nexus with New York include:

Maintaining a place of business within New York, either directly or through a subsidiary, including:

• a distribution center;
• a credit and collection office; or
• an administrative office; (20 NYCRR § 526.10(a)(2).)
• Soliciting business through employees, independent contractors, agents, or other representatives.

Distributing catalogues or other advertising material in New York if combined with additional connections, including:

• the presence of employees, sales representatives, independent contractors, or agents in New York;
• the maintenance of a post office box in New York to receive orders relating to the catalogue or advertising;
• the maintenance of an office in New York even if not connected with the sales being solicited; or
• regularly and systematically soliciting business within New York through these materials.
• Participating in trade shows, even sporadically.
• Maintaining inventory or other tangible personal property in New York.

Out-of-state sellers[2] with no physical presence in New York are considered to have substantial nexus with New York if the seller either:

• Maintains links on websites maintained by New York residents and pays commissions on sales made by those links unless the seller proves the in-state company engaged in no active solicitation other than hosting the out-of-state company’s link on its own website (Y. Tax Law § 1101(b)(8)(vi)).
• Has an affiliate that conducts activities in New York and:
• the out-of-state seller uses the same trademark, service mark, or trade name in New York as that used in New York by the in-state affiliate; or
• the in-state affiliate engages in sufficient activities in New York that benefit the out-of-state affiliate in developing and maintaining a market in New York.

To determine whether your activities might have a nexus, contact counsel at ask@scotchpalm.com

Multi-state transactions  sales and use taxes

Under New York’s law, out-of-state sellers with no physical presence in New York (for example, internet-based retailers) are presumed to have sales tax nexus with the state if they both:

• Maintain links on websites maintained by New York residents.
• Pay commissions on sales made through those links.
• New York has also adopted criteria by which an out-of-state seller with no physical presence itself can become subject to sales tax collection obligations because of the in-state activities of a separate but affiliated company.

Who has a duty to collect and pay sales and use taxes?

Both the sales and use taxes are ultimately imposed on the purchaser. However, a vendor who makes sales of tangible personal property or taxable services within New York and has the requisite nexus must collect the sales tax from the purchaser at the time of the sale unless the purchaser presents documentation of a valid exemption.

• If salestax has not been paid on a taxable transaction, New York can assess the vendor or the purchaser for unpaid sales tax,

Sales and Use Tax Registration

A vendor must obtain a certificate of registration from New York before commencing sales if it both:

• Sells tangible items (clothing, electronics, etc.) in New York
• Has sufficient nexus with the state.

A vendor registers  with the New York Department of Taxation and Finance  within 20 days of commencing business or making  sales.  Thanks for Avalara for some of the content.

DISCLAIMER. This is not legal or tax advice. Speak to counsel.’

Learn more @ Scotch & Palm Private Client Law Group

[1] The laws governing the imposition of the federal income tax are generally found in the Internal Revenue Code of 1986, as amended (1986 IRC), which is located in Title 26 of the US Code. In addition to the 1986 IRC, sources of law include the regulations promulgated by the Department of Treasury interpreting the 1986 IRC, rulings interpreting the 1986 IRC and case law.

[2] New York provides a special exemption for out-of-state sellers whose presence in New York is limited to the use of an in-state fulfillment service to handle inventory and shipping, even if inventory is stored at that location. These sellers are not required to register as vendors in New York unless the fulfillment service is affiliated by ownership with the out-of-state company (N.Y. Tax Law § 1101(b)(8)(v)

Social impact meets tech via Go Global Africa programme

Africans Go Global With First-Ever Innovation Programme

https://www.voice-online.co.uk/article/africans-go-global-first-ever-innovation-programme

South Africa’s tax incentives might be a bit too sweet

Tax incentive leads to the evolution of a new investment class

Series LLC – A Primer

There’s been growing interest in the Series LLC.  The Series LLC provides the type of flexibility that real estate investors and angel investors might find particularly attractive.

Although there are some risks and uncertainties relating to the Series LLC, the Series LLC is a powerful tool to create a series of limited liability companies in a single vehicle.

“Series” LLC v. Traditional LLC

Just like a traditional LLC, e.g.:

• Can be owned by multiple individuals or by separate business entities
• No geographical restrictions on ownership; owners may be located anywhere in the world, so long as they comply with the entity’s tax classification.

Advantages of Series Structure

IF the series LLC is organized properly you can take advantage of a centralized management structure and have an extra layer of liability protection.

•   Each series (cell) may have discrete assets or investment objectives that are separate from the assets or investment objectives of the Umbrella LLC and of each other series.
• Separate duties with respect to specified property or obligations of the limited liability company
• Operating Agreement may establish one
• No need to pay lawyers to file for subsequent series with the government
  [1] Series LLC Basics: Owners and Managers, Smart Business Incorporation (2013),  https://smartbusinessincorporation.com/blog/series-llc-basics-owners-and-managers/ (last visited  ).

This layer is created when the larger entity is set up (“umbrella”) and comprised of a series of subsidiary membership interest (“cell”), each with distinct names and separate books.

The subsidiary members function as separate and distinct member-managed cells within the larger LLC entity.  Done correctly, a “series” structure provides an extra layer of liability protection:

• Any debts, obligations, and other liabilities of a series of a limited liability company are “solely the debts, obligations, and liabilities of the series and not of the limited liability company generally [the “Parent”] or any other series [the cell]”

Where to Form the Series LLC

Delaware, Washington, D.C. and roughly fourteen other states have enacted state statutes that enable an LLC to be created via a discrete series of membership interests.

Here’s a visual for good measure.

Tax for Small Business Dummies PART 1

Beware the Ides of March.  Perhaps April deserves a bad reputation.  For small business owners and sole proprietors, ’tis Tax Season. At least March has the NCAA tournament.

In response to recent questions posted by clients and my friends at TigerLabs, I’ve summarized a few tips. Below, in order of relevance are the biggest changes to the tax code in decades and why it matters.

Four (4)  Tax Highlights for 2018, courtesy of Congress:

Depreciation  Magic.

I.  Section 179 Expense Deduction.

It’s a dry name for a deduction (taken from a line in the Internal Revenue Code) but it allows you to deduct the entire cost (subject to certain limitations) of an asset in the year you acquire and start using it for business.  Congress approved special depreciation and expensing rules for property acquired in 2018.

II.  Bonus Depreciation

Bonus depreciation has been changed for qualified assets acquired and placed in service after September 27, 2017. The old rules of 50% bonus depreciation still apply for qualified assets acquired before September 28, 2017. These assets had to be purchased new, not used.

The new rules allow for 100% bonus “expensing” of assets that are new or used. The percentage of bonus depreciation phases down in 2023 to 80%, 2024 to 60%, 2025 to 40%, and 2026 to 20%.

After 2026 there is no further bonus depreciation. This bonus “expensing” should not be confused with expensing under Code Section 179 which has entirely separate rules, see above. https://turbotax.intuit.com/tax-tips/small-business-taxes/managing-assets/L18WqppFX (basics of depreciation)

III. (QBI) Qualified Business Income/ IRC Section 199A Deduction

Qualified Business Income deduction (also called the QBI deduction, pass-through deduction, or section 199A deduction) was created by the 2017 Tax Cuts and Jobs Act (TCJA) and is in effect for tax years 2018 through 2025.

This new deduction means that most self-employed taxpayers and small business owners can exclude up to 20% of their qualified business income from federal income tax (but not self-employment tax), whether they itemize or not. 

With the QBI deduction, most self-employed taxpayers and small business owners can exclude up to 20% of their qualified business income from federal income tax (but not self-employment tax) whether they itemize or not.  https://ttlc.intuit.com/questions/4499030-what-is-the-qualified-business-income-qbi-deductionIRS

IV. Property Taxes

Starting in 2018, Congress has limited the amount of state and local property, income, and sales taxes that can be deducted to $10,000. In the past, these taxes have generally been fully tax deductible. Deductible property (real estate) taxes include taxes paid at closing when buying or selling a home, as well as taxes paid to your county or town’s tax assessor (either directly or through a mortgage escrow account) on the assessed value of your property.

V.  Check back tomorrow

Turbotax has a top-notch Self Employed Center; https://ttlc.intuit.com/browse/self-employed-center  (e.g. contractor, freelancer, 1099)  

Note: Our founder is a tax attorney that works with other experts to develop holistic wealth-planning solutions for small business owners, with a bias to tech firms with cross-border operations.   This means we strictly advise over a period of months and years.  We avoid one-off transactions.

Beware the Finder’s Fee

Concerning Fees for unlicensed Business Brokers

This question was asked by Scott B. at ExitPromise.com

Question.

I am semi-retired from the transportation sector. I have a business friend that owns a transportation company with approximately $100 mm in annual revenue that he would like to sell – retire himself. He would like me to connect him with a private equity group that would be interested in acquiring his company and prefers I be paid a “Finder Fee” by the acquiring PE firm, at closing. I know of a couple PE Firms that may be interested in this business. So my questions: (1) Are PE Firms allowed by law to pay an individual a finder fee on a deal that was referred to the PE firm by the individual and subsequently acquired by the PE firm? (2) Are there any licenses or other requirements the individual (me) must possess/meet to lawfully act and be paid in this “Finders” capacity? Thank you in advanced for your response.

Answer.

Small Business FAQ: Sale of Business/Buyer Goes Behind Seller’s Back

Small business owners hoping to sell a business must invest in a well-drafted commercial lease and should definitely need an even tighter buy-sell agreement.

Question: 

I sold my small business to a buyer and we try to make the landlord agreed with everything. While I was on vacation, the buyer went to the landlord on his own for some negotiating and the landlord made him sign a lease, completely new lease, new rent, new terms.

I was not present and I didn’t sign any paperwork to exit the lease, I just asked the landlord to run the buyer credit and financing to see if he was qualified for his part and asked that the landlord not sign anything before the buyer paid me first.

Well, now the landlord is holding my security deposit and deducted a rent discount and tacked on water bills for the past 2 years.

• First, can a landlord do that all of the above?
• Second, that rent discount has been a pattern and practice for the past 2 years, can the LL just undo that?
• Third, can the landlord assign a lease to a new tenant without my involvement?  This question was asked by Giuseppe. You can read the original question here. 

Answer:

Smells Like Bad Faith

Dear Giuseppe,

Sorry about your situation. Sounds like your buyer purchased you a few headaches and you’ll likely need and local advocate on your side to help you resolve this issue.

Here are a couple of tips:

• First, your lease with the landlord will be the most important document in your favor.  It outlines your rights to the deposit and to assigning and exiting the lease.
• Second, the buy-sell agreement between you and the buyer is your second most important agreement, assuming you have come to terms. A well-drafted contract contemplates a buyer skirting terms of your handshake, but if that fails, see #3 below. 
• Third, finally, state law typically has a good faith provision, sometimes called a General Obligation Law for situations like this.

Your case smells like bad faith and could be some solid leverage in settlement negotiations.  I suggest you call/email the local bar association for referrals to commercial contract attorneys, ideally with arbitration and litigation experience.

What a DBA is not!

DBA Much?

A recent client asked us about the pros and cons of registering fictitious name aka DBA in New York.

As a startup attorney, I know other small businesses must have the same question but none have time for leisure reading. Here’s a quick snippet to remember:

1. A DBA is not a legal entity, and has a very limited function. A DBA won’t protect your personal assets in a lawsuit; that’s a job best suited to LLCs, S-Corp, etc.

2. A DBA could be sued if your fictitious name is confused with another company’s, possibly violating that party’s Intellectual Property (IP) rights!

3. A DBA is not a business–it’s mission, vision, values, and people.

You can deduct the cost of legal fees and registration costs when tax time comes around.

Kwame

Depreciation for dummies…really smart small business, freelancer dummies

Depreciation, pimp my assets!

In sum, the Man (Amerika) has this concept called depreciation, which allows businesses to depreciate—or gradually deduct the cost of —assets such as equipment, fixtures, furniture, etc., that will last more than one year. Learn more here, via Turbotax. 

Depreciation’s always been a good deal for capital intensive businesses large and small. The old rules provided a 50% bonus depreciation for qualified assets acquired, but these assets had to be purchased new, not used.  Still, a pretty good deal, especially when talking real estate and vehicles.

Depreciation: A good deal for some.

For example, you’d get to lower your taxable income by thousands every year by using your building or car for business.  Wage earners/W2s got a few breadcrumbs,, but they were always limited; however, since the Tax Cuts and Jobs Act of 2017, businesses got a huge windfall, and have even MORE reason to “acquire” assets and wage earners get almost NO breaks for doing essentially the same thing. No arguing the morality, just spitting facts.  So, here’s what you need to know:

Bonus Depreciation, A better deal for fewer

Under the new rules, YOU, you really smart small business dummy, can take 100% bonus “expensing” of qualified assets that are new or used., acquired and placed in service after September 27, 2017. The percentage of bonus depreciation phases down in 2023 to 80%, 2024 to 60%, 2025 to 40%, and 2026 to 20%. After 2026 there is no further bonus depreciation. This bonus “expensing” should not be confused with expensing under Code Section 179 which has entirely separate rules,

A few more resources

https://www.irs.gov/pub/irs-pdf/p946.pdf

https://www.irs.gov/newsroom/new-rules-and-limitations-for-depreciation-and-expensing-under-the-tax-cuts-and-jobs-act

***Disclaimer** This response was prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. Attorney advertising. If you have any more questions, reach out to the team at ScotchPalm.com—fearlessly connecting the dots for entrepreneurs.