Doing Business Outside Your State of Formation

If you or your clients are going to operate outside your state of formation, you need to know about the intricacies of those states’ business entity laws or face the possibility of legal and financial risks. This means understanding foreign qualifications requirements.

What is foreign qualification?

In many cases, an entity is originally formed in one state, where it is considered “domestic.” If the entity transacts business in any other states, it needs to qualify in them. It will then be considered a “foreign” entity in those states. (A foreign qualification is not the same thing as a good standing certificate. Foreign qualification refers to the corporate filings of out-of-state corporations or LLCs that enable the company to do business in that particular state. A good standing certificate is a document affirming that a legal entity such as a corporation or partnership has complied with all of the filing requirements to be duly organized and authorized to do business in that state.)

Challengingly, each state has its own regulations and standards for determining if foreign qualification is required. And following these is necessary in order to legally transact business and have access to the courts of each state. While there are no standard rules covering all situations, some factors states may consider include whether the entity:

• Has employees in the state
• Has a real estate lease and office in the state
• Has a bank account in the state
• Has an automobile registered in the state
• Or is acting as manager of an LLC

Internet businesses engaged in interstate commerce present their own considerations, which may include whether or not their physical locations and employees are located only in the formation state. If a business has a physical location or employees on the payroll outside of its formation state, it may be doing business as a foreign entity.

How does foreign qualification work?

It is often a fairly simple process that builds upon the legal obligations a company already has in its home state. In general, a company pays a fee and files a document with the state business office that is responsible for qualifying foreign business entities. This is usually the Secretary of State’s office, although this may vary in some jurisdictions. Then once the company is qualified, they are provided with a certificate or other means of showing that they are now qualified to do business in that state. These documents usually require basic information about the company, such as:

• Legal name
• State or jurisdiction
• Date of formation
• Address of principal offices
• Names and business addresses of current directors, managers or officers
• Name and business address of in-state registered agent for service of process
• And in many states, proof of formation in the domestic state

Once qualified, the company is subject to other compliance requirements. These usually include maintaining a registered agent and filing an information report.

Consequences of failing to comply

If your company does business as a foreign entity in a state without qualification, what consequences might you face?

• You may be subject to monetary fines or to legal penalties.
• States may also collect all fees and taxes an entity would have owed if it had qualified when required to, plus interest, plus additional fines.
• In some states, individual officers or agents may also face fines.
• Your legal rights may be impacted by being prohibited from bringing a suit or proceeding in the state’s courts until you qualify (known as a “door closing” provision).

If you have questions or anything to add on this topic, please comment. Or if you prefer, you can contact your CLAS service representative or email Christy@clasinfo.com. You can also reach us at 1.800.952.5696.