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Legal Entity Compliance During COVID-19: Year-End Considerations for Business Owners

James Gilmer
James Gilmer

As the pandemic pushes business operations online and across state lines, business owners and management must comply with state requirements for legal entities.

The COVID-19 pandemic is the disruptive force of a generation. Over the past nine months, American businesses have pivoted (or scrambled) to adopt largely remote operations. Some of the benefits are immediate, such as the ability to connect with wider customer segments and the ability to hire top talent across the country. With broadened activities, however, comes an urgency to comply with the state-specific requirements for business. In uncertain economic conditions, management must balance its ability to ensure compliance with tightening annual budgets. As business owners look to the horizon of 2021 and beyond, compliance is sure to be in the limelight.

Many small businesses are accustomed to serving a relatively small market. They may have traditionally operated in one or a small handful of states. In light of COVID-19, those businesses may have been impacted in a number of ways.

Doing business outside the home state

Businesses that plan to operate outside their home state are generally required to register with the secretary of state of each new jurisdiction. This process is known as "foreign qualification," and it gives that business the authority to transact business in that state. The definition of "doing business" is broad, but it commonly refers to having nexus or a physical presence in that jurisdiction. Some common reasons are hiring an employee, maintaining an office or warehouse, or conducting enough business transactions to constitute a regular presence.

Now consider the impact of COVID-19 on your operations. Has your business hired any employees who live out of state? Are any of your current employees working remotely in another state? Have you started selling online or in large volumes to out-of-state customers? All of these reasons (and myriad others) could trigger the need to foreign-qualify in one or more states.

Appointing a compliant registered agent

A registered agent is the business's statutorily designated point of contact to receive service of process and other important legal notices. The registered agent must maintain a physical office in each state and be available during all regular business hours. The registered agent must reliably forward documents to the business to ensure enough time to respond.

When foreign-qualifying in any state, the business must appoint a local registered agent in order for their registration to be approved. Businesses that are expanding into multiple states should carefully choose a registered agent that meets the requirements of each state and can provide support as the business grows.

Closer to home, many physical offices that were once bustling with employee activity are now largely empty. Many businesses designate their office address in-state record to receive service of process. In "normal" situations, that might be a suitable arrangement. However, with no one currently available during business hours, the business may need to file to update state records with a new registered agent that can truly serve in its lawful capacity.

The consequences of missing a delivered lawsuit can be severe, so it's important to choose a reliable registered agent for your business, both now and in the future. Many businesses meet their registered agent requirements across all states by hiring a registered agent service provider. There are plenty of options, so business owners would be wise to research the vendor's pricing, software, competency and overall fit for their business. 

Applying for state tax accounts

COVID-19 has triggered a massive increase in remote work arrangements among U.S. employers. As current employees work from their homes, and employers begin to hire new employees far and wide, business owners should be aware of the tax requirements in each state. Hiring and paying an out-of-state employee, even for a portion of their time, may trigger the need to register for and report on the new state's payroll taxes. [Read related article: Employer's Guide to Payroll Deductions]

Businesses that sell or warehouse products out of state, or conduct business online with residents of other states, should be aware that their activities may create nexus in those states. "Nexus" simply means having enough of a presence in that state, but again, the consequence is to have to register for and report on state taxes. In light of South Dakota vs. Wayfair Inc., businesses may also be subject to sales, remote seller, marketplace facilitator, and other unique tax types established at the state level. Because the thresholds vary greatly in each state, business owners must monitor both where and how sales are made, as well as the resulting incomes from each state.

In many cases, opening state withholding, unemployment, sales and other tax accounts can take several weeks. Depending on the state and the tax accounts needed, registration may take place with several agencies. Frequently, the business will also need to foreign-qualify before it can successfully register for state taxes.

While the red tape is unavoidable, business owners can take proactive steps to establish tax accounts properly and make sure business can continue. By reviewing their hiring pipelines and sales forecasts, these businesses can reasonably predict where and what tax accounts are necessary. Then, because of the (occasionally) extensive lead time, businesses can work to file foreign-entity paperwork and open tax accounts right away. In general, the risk of that employee or opportunity falling through is lower than the risk of having to delay the hire or turn down an opportunity altogether because the right registrations weren't in place. Ultimately, a proactive approach helps ensure top talent is onboarded quickly and sales can be made with minimal risk of a tax penalty.

Making entity compliance a strategic focus

For all its corresponding challenges, COVID-19 has presented American businesses with the opportunity to pursue both talent and customers in a new, virtual paradigm. Because each state independently regulates business activity, legal entity compliance presents a stumbling block, especially for businesses expanding into multiple states for the first time. The solution is to make compliance a strategic focus, with organizational buy-in from top to bottom.

Because state requirements vary, and timing is essential, management should align securing state registrations with their business development strategy. This requires a holistic view of the business's existing and planned operations, sales pipeline, hiring funnel, and budget. By scouting the horizon, businesses can identify when and where to register, and immediately begin the process of filing for the necessary registrations.

Management may take action in one or both of the following ways. On one hand, businesses that manage their compliance responsibilities in-house must then ensure they have clear processes to collect information and signatures, file with state agencies, and track reporting deadlines. With employees working remotely, this presents logistical challenges of its own. On the other hand, many businesses lack the in-house expertise or desire to manage filings on their own. Many businesses choose to outsource filings, tracking and reporting to a third-party compliance provider. In either case, the business should realistically assess its core competencies to handle registration and reporting in multiple states, as well as its risk profile when deciding to delay certain filings or handling them internally.

Ultimately, legal entity compliance requirements are part of doing business in a new state. The key is for management to scan the horizon, learn what it takes to be compliant, then adopt a plan to get there. It may seem counterintuitive, but in these uncertain times, an intelligent outlook combined with strategic investments can safeguard a business's long-term profitability.

Harbor Compliance does not provide tax, financial, or legal advice. Use of our services does not create an attorney-client relationship. Harbor Compliance is not acting as your attorney and does not review information you provide to us for legal accuracy or sufficiency.

Image Credit: Jirapong Manustrong / Getty Images
James Gilmer
James Gilmer Member
James Gilmer is a Compliance Specialist at Harbor Compliance, a leading provider of compliance solutions for companies of all types and sizes. Founded by a team of government licensing specialists and technology trailblazers, Harbor Compliance has helped more than 25,000 organizations apply for, secure, and maintain licensing across all industries. James is passionate about helping nonprofit organizations leverage compliance to enhance their fundraising and program activities and educating the sector on compliance issues. James is also a Co-Founder of Berks Sinfonietta, Inc., a nonprofit chamber orchestra located in Reading, Pennsylvania.