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Legal Alert

March/April 2004

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In this issue . . .

• How to protect your LLC
• Complying with the ADA during hiring
• IRS revises procedures for offers in compromise
• E-commerce: Is your company vulnerable to lawsuits?
• Mandatory workplace postings: It’s the law!
• Maryland Statute Protects The Transfer Of Structured Settlement Payment Rights

How to protect your LLC

Many family businesses form limited liability companies (LLCs) to cost-effectively transfer ownership interests to the next generation. Families often save on estate and gift taxes by taking advantage of minority discounts the IRS grants because of lack of control and marketability, among other things. LLCs are also effective vehicles for consolidating assets, limiting liability and centralizing control. But a Seventh Circuit tax ruling may affect whether family LLCs qualify for the gift-tax exclusion. Let’s take a look at Hackl v. Commissioner to see what we can learn from it.

Future interests

The Hackls formed an LLC to acquire real estate and to operate a tree farm. They named Mr. Hackl manager for life, authorized him to name the next manager and empowered him to dissolve the company. They then transferred two tree farms worth about $4.5 million and cash and securities of $7.9 million to the LLC, giving ownership units to their children and grandchildren. Although the LLC’s goal was long-term growth, it made no profits or distributions.

The LLC operating agreement contained these restrictions:

• Members couldn’t withdraw their capital accounts, compel distributions or sell their interests without the manager’s approval,
• Membership or voting rights didn’t attach to interests sold without approval,
• No single member could dissolve the LLC, and
• The manager had sole discretion to distribute cash to members.

The Hackls claimed their donated LLC units constituted present gifts that qualified for the annual gifttax exclusion. They asserted that the donees had the same rights in the donated units that the Hackls held in the units they kept for themselves. Thus, because they gave up their entire rights in the property, the Hackls contended that the gifts constituted presentinterest gifts.

The IRS argued that the interests in the units didn’t carry “immediate and unconditional rights to the use, possession, or enjoyment of property or income from the property.” The IRS argued that a transfer without any substantial present economic benefit transfers only a future interest and thus is ineligible for the tax exclusion.

The Seventh Circuit agreed that the transfers represented gifts of future interests. Citing the transferability restrictions, the court held that the “operating agreement clearly foreclosed the donees’ ability to realize any substantial present economic benefit.” The court found that the ability to sell shares with no membership or voting rights failed to constitute substantial economic benefit. The restricted shares essentially had no immediate value for the donees, so the transferred interests were taxable.

Present value

You can shield transfers of LLC interests from gift and estate taxes by carefully drafting the LLC agreement. Our attorneys can review your agreement to ensure ownership interests have the necessary present economic value to qualify for the gift-tax exclusion.

Of course, looser restrictions could result in an increase in the interests’ value — in turn increasing your estate and gift taxes. But our attorneys may be able to revise your operating agreement to achieve all LLC goals.

Playing it safe

To obtain the usual tax benefits for your limitedliability company, ownership interests must carry a present interest or economic benefit. You can tailor your operating agreement to decrease the likelihood that the IRS will deem LLC shares to be future interests. In particular, be sure your operating agreement:

• Expressly states that the LLC manager owes fiduciary duties to the LLC and its members,
• Imposes mandatory cash-distribution requirements — perhaps requiring the LLC to distribute enough cash annually by a specified date to cover members’ individual income tax obligations on their shares of LLC income,
• Requires the manager to give financial statements and copies of the LLC tax returns to members annually,
• Defines “cash available for distribution” (which must be distributed at least annually by a specified date) — unless the members agree to retain cash in the LLC,
• Requires at least two members’ votes to attain a majority — even if one member controls most of the voting power,
• Gives members right-of-first-refusal when another member wants to sell his or her interest to an outsider, instead of requiring selling members to first obtain approval,
• Gives a temporary withdrawal right to donees of interests in the LLC, allowing them to withdraw their share of capital from the LLC for a limited time — such as 30 days, and
• Gives a temporary sell-back right to donees of interests intended as gifts, allowing them to require the LLC to buy their interests at a given price for a limited time.

Complying with the ADA during hiring

Employers can easily forget that the Americans With Disabilities Act applies not only to employment but also to the hiring process. The EEOC recently released a fact sheet explaining how employers can comply with the ADA while screening potential employees. If you’re an employer, here’s what you need to know.

No discrimination

Generally, if you have 15 or more employees, the ADA bars you from discriminating against qualified persons with disabilities. Protected persons include those with a physical or mental impairment that substantially limits a major life activity — or with a record of a substantially limitingimpairment — and those regarded or perceived as having an impairment. But disabled persons must satisfy your education, training and skills requirements for a position.

Disabled persons must be able to perform a job’s “essential functions” — or fundamental duties — with or without “reasonable accommodation.” But you don’t have to provide reasonable accommodation if doing so would cause you “undue hardship” — defined as significant difficulty or expense.

Reasonable accommodation

The ADA bars you from excluding candidates because they require reasonable accommodation to compete for a job, even if that will cause you some additional financial or administrative cost. If an applicant’s requested accommodation causes undue hardship, you must offer an alternative.

The EEOC cites several examples of reasonable accommodation during hiring:

• Providing written materials in accessible formats — such as Braille or audiotape,
• Providing readers or sign-language interpreters,
• Providing or modifying equipment, or
• Adjusting or modifying application policies and procedures.

If you include testing as part of hiring, you may need to appropriately accommodate test-takers who have some learning disabilities or impaired sensory, speaking or manual skills. You must administer application tests so that an applicant needn’t use an impaired skill — unless the test measures that skill.

After a candidate establishes a need for accommodation during the hiring process, you must offer a reasonable accommodation that meets that person’s disability needs. If more than one accommodation will meet those needs, you may choose which to provide. An applicant isn’t entitled to a specific accommodation.

Forbidden questions

Before conditionally offering employment, you may not require a physical exam or ask written or oral questions designed to reveal disabilities. You can’t ask questions such as:

• Whether applicants have a disability that would interfere with their ability to perform the job,
• How many days an applicant was sick last year,
• Whether an applicant has ever filed for workers’ compensation benefits, or
• What prescription drugs applicants currently take.

But you can make these inquiries after extending a conditional offer and before employment begins if you ask them of all applicants for a position. You can’t ask these questions or require medical exams “only of those who have obvious disabilities,” according to the EEOC. The presence of an obvious disability or the disclosure of a hidden disability doesn’t allow you to ask disability-related questions before offering employment. Nevertheless, you can ask whether applicants can perform specific job functions or ask them to describe or demonstrate how they would perform essential tasks.

You may require a post-offer medical exam, but you can’t withdraw a job offer solely because an exam reveals a disability. You may retract offers only when candidates can’t perform essential job functions with or without reasonable accommodation or if they pose a significant risk of causing substantial harm to themselves or others.

Confidentiality

The ADA requires you to maintain the confidentiality of medical information disclosed at any stage of the hiring process — whether voluntary, in response to written or oral questions, or during a medical exam.

But you may use medical information for insurance purposes and share it with decision makers who require it to make ADA-consistent employment decisions. And you may share it with some others — such as supervisors who must know about reasonable accommodations and work restrictions.

After hiring

Of course, the ADA doesn’t require job applicants to disclose their need for accommodation at any specific time, so employers may not find out until after hiring. For advice on how best to comply with reasonable-accommodation requests on the job, contact our attorneys.

IRS revises procedures for offers in compromise

  When financially distressed taxpayers find they can’t timely pay their tax debt in full, they can ask the IRS to settle their liability — typically for less than full payment. This is called an offer in compromise. Not all taxpayers qualify.

The IRS recently updated its guidance for submitting and processing offers in compromise. Here’re the highlights.

Making an offer

Taxpayers should consider offers in compromise only as a last resort after they have exhausted all other available payment options — including installment agreements. They may ask for one if:

1. Doubt exists that the assessed tax is correct,
2. Doubt exists that the taxpayer could ever pay the full amount due, or
3. The tax is correct and collectible, but the taxpayer can demonstrate that collection would create economic hardship or that collection of the full amount would undermine public confidence in the fair administration of the tax laws.

An offer in compromise must list all tax liabilities covered by the offer, the legal grounds for compromise, the amount the taxpayer proposes to pay, payment terms and due dates. Taxpayers can choose to pay a lump sum, monthly payments or a combination of these methods. Longer payment terms require a larger offer amount. Generally, the offer amount should reflect the amount the IRS would expect to recover — whether through litigation or other means — without causing economic hardship.

Taxpayers seeking compromise must properly value their assets and accurately report income and living expenses. And they must have filed all required tax returns and can’t be in bankruptcy. Business taxpayers must have timely filed returns and paid any required employment tax for the two quarters preceding filing of the offer and be up-to-date on deposits for the quarter the offer is submitted in.

Taxpayers must pay a $150 user fee for offers in compromise. But the IRS waives the fee if an offer is based solely on doubt about liability or if the taxpayer’s income falls below poverty guidelines.

The IRS can’t make a levy on a taxpayer’s property:

• While an offer in compromise is pending,
• For 30 days after rejecting an offer, or
• While an appeal is pending.

But the IRS suspends the statute of limitations for collection while an offer is pending.

Accepting an offer

An offer is accepted when the IRS notifies the taxpayer in writing, effective as of the date of the acceptance letter. An acceptance conclusively settles the liability only of the taxpayer making the offer. Other taxpayers who weren’t listed in the offer but are also liable for the tax remain liable.

After the IRS accepts an offer, taxpayers must have no further delinquencies and must abide by all agreement terms, including filing all future returns and making all payments when required for five years or until they have paid the offered amount in full — whichever is longer. If a taxpayer doesn’t comply with these requirements, the IRS may declare the offer in compromise in default.

Let our attorneys help you explore your options before you contact the IRS.

E-commerce: Is your company vulnerable to lawsuits?

As more consumers shop online, all kinds of businesses find the Internet to be a valuable tool for direct sales. Although e-commerce represents a simple and economical way to reach potential customers worldwide, a recent appellate court ruling demonstrates one of its risks — being sued in far-flung jurisdictions. Here’s a case in point: Gator.com Corp. v. L.L. Bean Inc.

Substantial contacts

Maine-based L.L. Bean operates no stores in California. Instead, it conducts business with California customers via catalog, phone and its Web site. Another company’s software causes Eddie Bauer coupons to pop up when a user visits Bean’s site. Bean sent a cease-and-desist letter to the pop-up company. It sued Bean in California court, asking the court to declare that pop-ups don’t infringe or dilute the Bean trademark or constitute unfair competition.

Bean moved to dismiss the suit, arguing that it wasn’t subject to California jurisdiction because it maintained no physical presence there, wasn’t authorized to do business there, had no agent for service-ofprocess there and wasn’t required to pay taxes there.

The Ninth Circuit disagreed. First, it noted that a defendant generally must maintain “substantial” or “continuous and systematic” contacts with a state to be subject to lawsuits filed in its courts. But the court found that modern businesses increasingly no longer require an actual physical presence in a state “to engage in commercial activity there.” The court found that the company:

• Realized about 6% of its total 2000 sales in California,
• Mailed a substantial number of catalogs and packages to the state,
• Targeted many California residents for direct e-mail solicitation,
• Maintained a substantial number of online accounts for California customers,
• Allowed California residents to communicate with service representatives “live” via the Internet, and
• Contracted with several California vendors.

Based on these findings, the Ninth Circuit held that the company’s contacts with the state were sufficiently continuous and systematic to justify subjecting it to jurisdiction — and lawsuits — in California.

Continuous and systematic contact

But the court went further, finding that the Web site was “highly interactive” and that the contacts made through the Web site — described as a “virtual store” — in and of themselves satisfied the jurisdiction criterion. The court applied the sliding-scale test for Internet-based companies. The test doesn’t require actual presence in a state. Rather, courts base jurisdiction on a finding that commercial activity occurs at sufficient levels to constitute “approximate physical presence.” So the court held that the company’s commercial activity in California qualified as “substantial” or “continuous and systematic.”

A warning

The Ninth Circuit stressed that jurisdiction interpretations must be flexible enough to respond to a modern marketplace where companies can sell products in a state without ever setting foot in it. The court warned that businesses that “structure their activities to take full advantage of the opportunities that virtual commerce offers can reasonably anticipate that these same activities will potentially subject them to suit in the locales they have targeted.”

Other courts are split on this issue and the Supreme Court has yet to rule in a similar case. But online retailers who sell to customers in California should consider themselves forewarned.

Mandatory workplace postings: It’s the law!

The Department of Labor (DOL) requires most employers to post specific notices in conspicuous locations in their workplaces to inform employees of their rights. Employers that don’t comply may be subject to costly penalties and disadvantaged if they have to defend against lawsuits.

Federal statutes

Employers, depending on the number of workers or whether they have federal contracts, must comply with these federal statutes:

Occupational Safety & Health Act. The DOL is currently phasing in a new “plain language” OSHA poster for private employers entitled “You have a right to a safe and healthful workplace. It’s the law.” But employers need not replace the previous poster, “Job Safety & Health Protection.”

Equal-employment-opportunity and nondiscrimination statutes. Every employer covered by the equal opportunity and nondiscrimination statutes must post “Equal Employment Opportunity is the Law.” It addresses several statutes, including Title VII, the Americans With Disabilities Act, the Age Discrimination in Employment Act and the Rehabilitation Act. This poster’s absence can affect the statute of limitations for claims under all these statutes except the Rehabilitation Act.

Fair Labor Standards Act. Employers of FLSAcovered workers must post “Your Rights Under the Fair Labor Standards Act.” This poster displays the federal hourly minimum wage of $5.15, overtime-pay requirements and age-and-hour restrictions on child labor. Employers of workers paid under special minimum wage certificates must also post “Notice to Workers with Disabilities Paid at Special Minimum Wages.” If more appropriate, employers may provide this poster directly to affected workers rather than post it.

Family & Medical Leave Act. Covered businesses (generally those with 50 or more employees) must post “Your Rights under the Family & Medical Leave Act of 1993.” The poster summarizes the FMLA’s major provisions and explains how employees can file a complaint. Employers that willfully refuse to post it may incur penalties of up to $100 for each offense.

Employee Polygraph Protection Act. Employers engaged in or affecting commerce must post “Notice: Employee Polygraph Protection Act.” The poster explains the act’s prohibitions and exemptions. Employers failing to post it may be subject to civil penalties.

State statutes

In addition to these federally mandated postings, employers are subject to their respective state’s posting requirements. States often require separate postings on topics such as equal pay, minimum wage, workers’ compensation, unemployment insurance and child-labor laws.

Poster advisor

Employers can obtain required federal posters on the DOL Web site: http://www.dol.gov/osbp/sbrefa/poster/main.htm. The DOL also has created online “advisors” to help employees and employers understand their rights and responsibilities under many federal employment laws, including those with posting requirements. Each advisor includes links to more detailed information — such as links to regulatory text, publications and organizations. But the DOL hasn’t developed an advisor for every law or regulation, so don’t hesitate to call your attorney for expert advice on these matters.

Maryland Statute Protects The Transfer Of Structured Settlement Payment Rights

The Maryland Legislature recently passed an Act that allows individuals to sell future periodic payments for an immediate lump sum cash payment.

Let’s say you are the victim of an accident and suffer an injury as a result. The company or person who causes the accident decides to settle your claim and pay you damages over time instead of an immediate lump sum payment. The settlement may entitle you to receive monthly payments of $500.00 per month for 20 years. At the time of the settlement you are pleased with idea that you will receive the security of these guaranteed monthly payments in the future. Some time later, however, you decide that you would like to make alarge purchase such as buying a house or a car. Therefore, instead of the $500.00 per month, you decide that you would prefer a large lump sum cash payment now.

In the past, the sale of periodic payments was largely unregulated. After the passage of the Act, however, the courts became empowered to oversee the sale of these payments. Today, if an individual would like to sell his or her periodic payments, he or she must obtain court approval for the sale.

There are three main prerequisites to obtaining a court order:

1. The purchaser of the periodic payments must disclose to the seller of the payments the discounted present value.
2. The seller must obtain “independent professional advice” from a licensed professional, usually a lawyer, CPA or licensed financial advisor. This provision ensures that the seller understands the transaction.
3. The court considering the sale must find that the sale is “necessary, reasonable, or appropriate.” The seller must have a reason he or she is selling the payments, and that reason must be acceptable to the court.

If you would like to learn more about buying or selling periodic payments, please contact us.