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Setting Up Your Business

This is not legal advice, you can only get that from an attorney, which I am not.  These are just some observations of mine.

You’ll want to find the state government agency that regulates retailers in your state.  In California the office of the Secretary of State is the main contact point.  It’s fairly stream-lined if you’re retailing common consumer goods, but as with anything to do with government it can become byzantine.  Don’t let that deter you, when I was starting out I decided to spend a couple of months (evenings and weekends only) reading through the Secretary of State website, making careful notes of everything that was required.  This isn’t fun, but unless you can afford an attorney and an accountant to guide you, spend the time up front to get it right.

You’re probably well aware already, but I’ll repeat here, that you can set up your business as an individual proprietorship (just you, not a corporation), an S corporation (a corporation for an individual, profits pass straight through to you), or a C corporation (what you normally think of as a corporation).  They each have their advantages, and you’ll have to decide for yourself what’s best for you. 

I formed a C corporation, because I wanted the legal protections a C corporation provides (disgruntled customers / employees / creditors can sue the corporation, but not you).  I’ve never been sued, but it’s possible and making it a C corp gives me some protection.  Of course there’s more overhead associated with a C corporation, but there are ample books to help you set one up in your state.  They have boiler-plate text for Articles of Incorporation, letters to announce shareholder meetings, annual meeting minutes, etc.  If you’re going to be the only shareholder, using the provided text may be fine.  If there’s more than one shareholder (even if it’s your spouse) some advice from a lawyer is probably a good idea.  One of the most important things to remember about a C corporation is that you have to treat it like one (being consistent about having and recording annual meetings, meeting minutes, etc.), or effectively it isn’t a corporation and anyone can sue you instead of the corporation.  So be careful to follow all the laws for a C corporation at all times, or you won’t really have the legal protections you want from a C corp.

You’ll need to get from your state government a license to sell goods.  In California it’s called a Sellers Permit.  Most manufacturers will ask for your permit number before actually selling you anything, because your permit number is what prevents them from having to pay sales tax on sales to you (sales tax is only paid on sales to the end consumer, not on sales from manufacturers to retailers for resale).   You’ll also need the Sellers Permit number when paying sales tax you’ve collected to your state.

Currently, you only have to pay sales tax on sales to residents within the state you’re operating in.  This does mean that you have to keep track of which sales are to residents of your state.  There are actually different sales tax rates in different parts of the state, because local governments can tack on their own sales taxes to the state sales tax.  In California, and most likely in all states, they allow you to just pay a flat sales tax rate based on your location, regardless of the exact location of your buyers within your state.  But you should find out up front from your state how to calculate the sales tax you owe and what information you need to provide to the state.  You want to collect the necessary information throughout the year as sales are made, instead of realizing at the end of the year you don’t have all the information you need, and there’s no way to get it.

If you incorporate you’ll also need to pay federal and (most likely) state income taxes as well.  These are typically paid quarterly, though in the first year I only paid them at the end of the year.  Note that even if your state has no personal income tax, it probably does have a corporate income tax, so any profits that you don’t pay out to yourself as wages will be subject to federal and state income taxes.

You should contact your county and city governments as well, to see if they have any business license requirements.  If you’re just selling common consumer goods from your home they may not require a license, though some do.

Paying employees, even if it’s just you, opens up a whole new level of government forms that have to be filled out.  You probably don’t have to worry about this for a while, it takes time to generate enough profit to be able to pay yourself, but eventually you’ll need to do this.  I use a payroll service, ADP, and for a small monthly fee they handle all the paperwork for me.  There are other good payroll services as well, shop around and find one you like, it is well worth the money.  I’ve been very happy with ADP so far.

Random Observations

My freshman Psychology professor used to say people have two reasons for everything they do: 1. The reason they tell you, and 2. The real reason.  This was on display in California recently when they passed the ‘Amazon Tax’. 

I’ll provide a little background.  Many people make money off of their websites by providing a link to Amazon products that may be of interest to their readers.  If someone clicks their link and buys a product from Amazon, Amazon pays the website operator a small commission.  Now, Amazon only has to collect sales tax on sales to people who live in states in which Amazon operates its business, for buyers in all other states Amazon does not collect sales tax (buyers in these other states are supposed to pay the sales tax themselves directly to their state, but in practice no one does).  In general, operating a business means having a physical presence in the state, like a brick and mortar store.  California passed a law that says paying a commission to people who operate a website out of California is a physical presence, and thus Amazon must collect sales tax on sales to California as long as they pay commissions to California-based website operators.

One reason California gave for passing this law was ‘tax fairness’.  That is, that it’s unfair for Amazon to not collect sales tax while retailers physically located in the state do have to collect sales tax, giving Amazon an advantage.  The other reason California gave for passing this law was the money the state would collect from the sales tax, which the state estimates at about $200 million per year.

Amazon immediately terminated all contracts with people in California it used to pay commissions to for their website links, so passing this law will not change the fact that Amazon does not collect sales tax on sales to California, while in-state retailers do.  This is not a surprise, since other states have passed similar laws and Amazon did exactly the same thing to avoid having to collect sales tax in those states.  The California Legislature knew this, since Amazon told them ahead of time they would.  So the first stated purpose of this law (tax fairness) is definitely not the reason it was passed.

Since Amazon won’t be paying sales tax on sales to California, the only way this law will raise $200 million in sales tax revenue for the state is if $2 billion of would-be Amazon sales go to in-state retailers instead (the sales tax rate in California is about 10%).  Amazon had $34 billion in sales in 2010, so the state is estimating that most of Amazon’s sales to California residents will instead go to in-state retailers because of this law.  This seems to me to be extremely unlikely.  Only website operators in California are affected by this change, sales to California residents through website operators in other states will continue as usual.  And the larger website operators in California will move their operations to other states to continue working with Amazon.  It’s also true that not all (or even most) of Amazon’s sales leads come through these websites, people shop directly on Amazon without being led there through anyone’s link.  Only the small website operators in California will end up shutting down their links to Amazon because of this law.  So the second stated purpose of this law (to raise $200 million in sales tax revenue) is almost certainly not the reason it was passed, either, because the state is likely to collect little, if any, sales tax from passing this law.

I don’t know what the real reason was for passing this law.  Most likely the net effect will be to send a few people and jobs to other states, and eliminate a source of supplemental income for many of the 10,000 people Amazon used to work with in California.

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