How to Incorporate a Business Under Texas Law
A Texas corporation is a legal entity that stands separate from its owners. Corporations benefit owners by protecting their personal assets from business debts. Creditors and plaintiffs usually cannot reach the personal assets of business owners to satisfy judgments against a corporation. However, corporations are subject to what is sometimes known as “double taxation.” Corporations are taxed when they take in profits, and shareholders pay tax on any dividends or capital gains.
A corporation can be a C corporation or an S corporation. A C corporation is the more traditional of the two, while an S corporation somewhat avoids double taxation by “passing through” its profits to the individual tax returns of its owners. An organization that prioritizes control over “going public” may be structured as a close corporation. A close corporation (or “tightly held” corporation) is usually limited to a small number of shareholders and often restricts how stocks are sold or transferred. Close corporations work well for organizations such as family businesses.
Regardless of how an organization chooses to incorporate, it is important to follow all the steps of incorporation properly. The benefits and protections of the corporate structure, such as protection from liability, may not apply if a business is not properly incorporated.
1. Choosing a Name
An incorporator (also known as an “organizer”) may name their Texas corporation almost anything so long as it is distinguishable and contains the word “company,” “corporation,” “incorporated,” “limited,” or an abbreviation of these words.
In Texas, a business’ name is distinguishable from another if it contains at least one different key word or the same key words in a different order. Key words or contractions of key words may be derived from the same root word yet remain distinguishable. Key words may also be the same but in a different language and remain distinguishable. For example, Tejas Enterprises and Texas Enterprises are distinguishable, but El Rodeo, Rodeo, and The Rodeo are not. Key words may sound the same so long as at least one word has a different meaning or connotation on its face. Finally, key words may be the same so long as there is an addition, substitution, or omission of a preposition that alters the name sufficiently. Texas does not consider the case, typeface, or script of letters or numbers in its determination. It also does not consider punctuation, symbols, articles, conjunctions, or the repetition or alteration of letters that do not sufficiently alter names.
The corporation’s name also may not falsely imply governmental affiliation or a purpose that would be unlawful for the entity to conduct. Certain restricted words require additional approval. A name will not be approved if it is deemed “grossly offensive.”
A corporation name may be reserved with the Secretary of State for a fee. The reservation will last for 120 days and may be renewed thereafter. It may be a good idea to also check if the web domain is available for purchase. A corporation operating under a name other than its legal name will need to file an Assumed Name Certificate. Finally, a registered name is not a trademark. Trademarks are registered with the U.S. Patent and Trademark Office or a state trademark office.
2. Choosing a Registered Agent
A business’ registered agent receives service of process, government correspondence, and compliance documents on behalf of the business. A registered agent can be an individual or an entity, but a corporation cannot be its own registered agent for service of process. However, a director or officer may serve as an agent. Some businesses, especially larger ones, prefer to employ a registered agent service. Regardless, Texas requires that a registered agent meet the following criteria:
- Is at least 18 years old
- Maintains a physical address in Texas
- Is available in person during normal business hours
A Texas registered agent must consent in writing or electronically to the appointment. The signed consent should be retained in business records but does not need to be filed with the Secretary of State.
3. Choosing Initial Directors
At least one director must oversee the corporation. A corporate director is responsible for the adoption, amendment, and repeal of operational bylaws and the election, supervision, and removal of officers.
During an organizational meeting, the incorporators should elect the board of directors, or the initial directors should appoint officers.
The initial corporate directors will serve on the board until the first annual shareholders meeting, at which board members are elected by the shareholders.
4. Choosing a Share Structure
In order to complete the Certificate of Formation, incorporators and directors must choose a share structure. A share structure will include the number of shares that the corporation is allowed to issue (the authorized shares), the total number of shares actually issued to shareholders (the issued shares), and any share classes with defined rights and privileges.
Unlike some states, Texas does not dictate a par value, meaning a threshold value under which a stock cannot be sold. Instead, incorporators choose whether or not the stock will have a par value in the Certificate of Formation.
5. Executing a Certificate of Formation
The Certificate of Formation is the official document that creates a Texas corporation. It can be filed online, by fax, in person, or by mail with the Texas Secretary of State for a filing fee. Texas’ standard form (Form 201) only provides for a corporation with one share class. A corporation with multiple share classes must draft its own document. A business lawyer may be helpful in this situation.
The Certificate of Formation includes:
- The corporate name
- The corporate registered agent’s name and street address
- The corporate directors’ names and addresses
- The number of shares that the corporation is authorized to issue
- The name and address of the incorporator (known as the “organizer”)
- The signature of the organizer
For more information, see: TX Bus Orgs § 3.005; TX Bus Orgs § 3.007.
6. Holding an Organizational Meeting
The first meeting with the incorporators and potentially the initial corporate directors (appointed by the incorporators) is used to make key decisions. Attendees of the first organizational meeting will usually:
- Set up a corporate records book to maintain all important records
- Create and approve bylaws
- Select initial directors and officers
- Select a corporate bank
- Set the corporation’s fiscal year
- Execute an Incorporator’s Statement
- Adopt the Certificate of Formation
The organizational meeting should be memorialized in meeting minutes by an incorporator or director and stored with the corporate records. Texas mandates recording of meeting minutes.
For more information on Texas corporate law, see: Texas Business Organizations Code.
7. Executing an Incorporator’s Statement
The Incorporator’s Statement includes the complete name and address of each initial director and the signature of the incorporator. Initial directors serve until the board of directors is elected during the first shareholders meeting. The Incorporator’s Statement should be preserved with the rest of the corporate records.
8. Preparing Corporate Bylaws
Bylaws are simply a corporation’s rules dictating the actions of its members. Bylaws must be kept up-to-date and are amended by calling a special meeting. Bylaws may provide:
- How the corporation will be governed (the roles of the directors and officers)
- How meetings are held, how voting is done, and how officers and directors are elected
- How a “quorum” is defined for voting purposes
- The date of the annual shareholders meeting
- How notice of meetings will be given (notice is required in Texas for all shareholders entitled to vote)
- How records are kept and managed, including meeting minutes (required in Texas)
- How disputes are resolved
- How contracts are negotiated
- How bylaws are amended and kept up-to-date
- Fiduciary duties to the corporation (e.g., the duties of care and loyalty)
In Texas, a close corporation may be managed according to a shareholders agreement rather than bylaws or a board of directors.
9. Issuing Stock
Stock may be issued to shareholders in exchange for a variety of valuables, including cash, property, services, or all three. A stock transfer ledger should record each shareholder’s name and contact information.
Shares of stock are considered securities. Federal law exempts private offerings (non-advertised sales of stock to a limited number of individuals) from federal securities law, so long as a corporation files Form D within 15 days of the first sale. If a corporation uses Rule 506(b) as its exemption, the stocks issued will be restricted securities.
Texas law similarly exempts the non-advertised sale of shares to 35 or fewer investors who are either sophisticated investors or individuals with a pre-existing relation to the corporation or its founders, principal shareholders, officers, or directors. A corporation using federal Rule 506 must submit a Form D notice filing and fee within 15 days of the first sale.
Corporations interested in selling stock publicly or to a large number of investors should consult a business lawyer.
10. Complying with Texas Tax and Regulatory Requirements
A corporation must apply for an Employer Identification Number (EIN) or Federal Tax Identification Number (FTIN) to open its business bank account, pay federal and state taxes, and hire employees. A corporation may apply for an EIN from the IRS online or by mail.
All Texas corporations pay Texas franchise taxes to the Texas Comptroller. Texas corporations that pay wages must register through the Texas Workforce Commission. Texas corporations that sell a physical product may need to register for a seller’s permit to collect and report taxes.
If a Texas corporation elects to operate as an S corporation, it must submit Form 2553 Election by a Small Business Corporation to the IRS. Form 2553 must be filed within two months and 15 days of the beginning of the tax year when it is to be effective.
Incorporators should check for other necessary business licenses, such as health permits if opening a restaurant. Licenses may be necessary on the federal, state, and local levels. Texas’ Business Permit Office offers additional guidance.
