Professional Corporations

An organization that consists of professionals from different fields.

An organization that consists of professionals from different fields, such as accountants, architects, psychologists, engineers, doctors, and lawyers, is a professional corporation (PC). 

In most states, professionals who want to incorporate their practice can do so by forming a professional company or a professional service corporation. A professional service company differs from an experienced corporation in that it is established following specific Internal Revenue Service standards (IRS).

Professional companies must be established in the state where the professionals perform their business. Regular businesses exempt investors from personal liability, unlike professional firms, which only restrict shareholders' liability in specified situations.

The formation of professional organizations cannot be done to shield the owner-employees from civil liability for professional negligence. The proprietors of professional corporations must pay the FICA tax rather than the self-employment tax, and they are subject to the same taxation as regular businesses.

Reviewing the state legislature where the professional company will be created before it is founded is crucial. 

Generally speaking, only accountants, engineers, doctors and other healthcare professionals, attorneys, veterinary surgeons, and social workers are permitted to form professional corporations in most states. 

The corporation's primary goal must be to offer expert services. Therefore, every expert employed by the company has to be licensed. For instance, every doctor must have a valid license in the state where the company was founded.

State laws that govern this type of corporation have various limits on who is allowed to acquire stock in the business. 

For instance, only people who belong to the same profession may own a professional corporation in certain states. This would imply, for example, that if the company's primary goal is to provide legal services, then only attorneys would be permitted to buy shares in such a corporation. 

How to Create A Professional Corporation

The founders must submit specific papers to the relevant authorities as part of the formation procedure. The fundamental actions in setting this up are as follows:

1. Draft the articles of association

Drafting the articles of incorporation, which will be submitted to the state during registration, is the first stage in forming it. 

drafting article

In that document, the organizers must explicitly indicate their intention to function as a PC. The objective of the company, or the service or reasonable the corporation will provide, should be stated in the articles of formation.

For instance, if a PC comprises attorneys, its goal would be to offer legal services.

2. Naming the corporation

The organizers should also specify the proposed corporate name, which must be distinct from the terms of existing registered businesses.

The organization's suggested name should ideally contain the words "professional corporation" and the precise spelling, punctuation, or abbreviation used to identify the profession, such as M.D. or P.C.

3. Obtain local approval 

The parties could be needed to seek extra clearance from the applicable licensing boards before the state can authorize the incorporation. 

For example, the State Medical Board of the state where the parties creating the corporation are licensed to practice medicine may compel them to acquire approval. Additionally, the parties must provide documents of all members' practicing licenses that make up the corporation.

Restrictions on Formation

While most businesses are subject to some limitations, PCs are subject to additional limitations. It is a good idea to determine which limitations apply in your state, as this is not an exhaustive list.

1. Licensing

Only those with the necessary licenses to provide a particular service may incorporate it. For instance, all of the members of the professional company must hold valid rights to practice medicine in the state in which it was founded.

2. No dual practices 

A group of persons may occasionally have several licenses. For instance, a group of lawyers could also have an accounting license. However, the professional company is not permitted to offer accounting services if it was formed to provide legal services.

3. Board and officers

All officials and one-half of the board of directors must have a license to practice the corporation's specialized profession, except the treasurer and secretary, who are exempt. 

For instance, a company for veterinary professionals may give board positions to those who manage boarding facilities, groom pets, or work in the office. As long as they don't make up more than half of the board, this is OK.

4. Accepting partnerships 

Ownership is not limited to a single individual. Partnerships are also permitted to be a part of the organization as long as the partners have the same profession. 

The same is valid for other PCs. For example, a PC of lawyers or a partnership cannot be the proprietors of a professional business of doctors.

5. Handling stock shares

Shares of stock that have been issued must state that they are a part of a PC. Furthermore, the equity shares must expressly specify that they are not transferable.

How Does Personal Liability Work in A Professional Corporation?

It seems to be an ordinary corporation at first glance. Because both a corporation and a professional corporation must create bylaws, have shareholder meetings, and pay corporate income taxes, among other things. 

The only moment the company indeed appears different is when malpractice takes place.

If the firm incurs debt, the shareholders are likely not required to make the difference because each shareholder in a PC has some liability protection. But unlike a typical business, a PC shareholder might be sued for misconduct.

One can sue a doctor for damages, for instance, if they botch an operation while working on a computer. The shareholders of any other incorporated company cannot be sued individually, but each shareholder may be held liable for their negligence in a professional corporation.

Fortunately, each shareholder is only responsible for their professional faults, so the other shareholders do not have to pay for the misconduct of their coworkers.

Each professional is held responsible for upholding the standards relevant to their field when they are liable for malpractice. The state restrictions for that industry would lose their authority if these specialists could conceal themselves behind company walls. 

All shareholders know that they must continue to adhere to such rules, notwithstanding the threat of litigation.

Limits on Liability and Taxation of Professional Corporations

PCs face limits on liability and taxation explained below:

A. Liability Limits

A professional company offers its owners immunity from responsibility for the debts made by the business. 

As a result, the shareholders' private property cannot be sold or put up for sale to cover the corporation's obligations. As a result, the maximum liability that the shareholders may incur is equal to the value of the shares they own in the corporation.

Limitations on liability are another way liability rules operate differently than in a regular organization. 

Suppose one owner is found to have participated in any behavior that may be considered a violation of malpractice legislation. In that case, they will be held personally liable indefinitely for their actions but not for the actions of others. Therefore, the business should ensure it has the appropriate levels of insurance. 

Additionally, each owner should have the necessary insurance coverage, such as a malpractice or errors and omissions policy.

B. Taxation

Instead of a progressive scale, the professional company is taxed at a flat rate of 21%. The tax rate is comparable to the IRS's flat tax rate for firms with U.S. residents. But a flat tax rate as opposed to a tiered one.

95% of the business operations must fall inside the corporation's designated field of endeavor to be eligible, according to the IRS. 

95% of the outstanding shares must also be held by current and past workers who rendered services to the business. However, the estates of former workers and the heirs of present and past employees are exempt from this rule.

The tax year for professional service businesses must also be a calendar year. There are several exceptions, but only if the corporation asks the tax commissioner for permission and gets it. Although there are other exceptions, keeping this in mind when establishing a professional business is crucial.

Advantages and Disadvantages 

Similar to all corporations, the PC has both advantages and disadvantages:

A. Advantages

The limitation on liability for the wrongdoing or negligence of individuals who are employees of the business is one of the key benefits. But the advantages don't stop there. Certain tax advantages include the capacity to make larger 401(k) plan contributions. 

These companies may also be able to offer tax-free life and health insurance to their employees, among other perks. 

Shareholders could profit from tax breaks, but it's vital to remember that a professional corporation's tax rate in 2017 is 35 percent. This applies to all earnings, unlike a business with progressive tax rates.

Other benefits should be considered when comparing partnerships versus corporations. For instance, although constrained, ownership can be transferred more quickly. Typically, the shareholder agreement will outline any limits. 

Additionally, a professional company may continue to exist forever, unlike a partnership that would need to dissolve when one of its owners passes away or quits. Compared to other forms of ownership, this is a significant benefit. 

Moreover, it's frequently considered a plus that members can drop out or join anytime. Finally, remember that you might need to file amended articles of incorporation with the state if you decide to add or remove members.

B. Disadvantages

While creating a professional organization does provide liability protection, it does not shield an individual from personal responsibility for their negligence or misbehavior. 

A professional business may additionally experience double taxation due to tax legislation, much like other corporations. 

Last but not least, not all professions may establish a professional corporation. Professional businesses are often restricted to occupations like medicine, veterinary medicine, law, and other specialized fields. In addition, not all states permit all forms of PCs.

Protocols Are Still Necessary

Standard corporate procedures must still be followed when establishing a business as a PC. This involves conducting shareholders' meetings, holding annual meetings, and taking the necessary steps to complete state-mandated yearly filings. In addition, corporate bylaws may specify the following things:

  • Handling of funds: A procedure should be in place that forbids mixing personal and business finances. This may need to be clarified in the bylaws and mentioned in the minutes of the board of directors' first meeting.
  • Setting up Bank accounts: Depending on its needs, the firm should have its credit accounts, lines of credit, and checking accounts. In general, obtaining bank accounts for the corporation may need a separate corporate resolution.
  • Written Agreement: All agreements should be kept in writing, according to a professional business. Employment contracts, benefit plan agreements, and leases for real estate or equipment are a few examples of this.

Despite the corporation being set up as a professional corporation, keep in mind that you will still need to deal with the fundamentals of fulfilling corporate duties. 

The business must have a unique Employer Identification Number (EIN). Payroll taxes are also required for non-owner workers. According to the IRS, it must also provide a Form K-1 to each shareholder for their tax returns.

The creation of a professional corporation has several advantages. This can be the only choice for some firms. Before determining which corporate structure is ideal for your company, research the laws in your state. 

Because of various restrictions, professional companies may not be the appropriate company structure for your purposes.


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Researched and authored by Ely Karam | LinkedIn

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