Running a business requires time and energy. When done right, a corporate entity should operate like a music startup. It can keep artists in the green and out of trouble. Conversely, businesses can also create new problems when treated without care.
You don’t need millions in cash to get the ball rolling. Rules and costs vary across state lines, but a few hundred dollars will usually cover the price tag of filing for a legally recognized company. For a majority of rising artists, a limited liability company (or LLC) will make the most sense, as opposed to a partnership or corporation. (LLCs offer legal protection partnerships don’t. They also need less maintenance than full-fledged corps. S Corps, a midpoint between LLCs and regular corps, offer potential savings for artists making substantial money each year. Click here to see if S Corps make sense for you.) Before committing, though, it’s important to self-examine. Do you think you’ll make enough to cover fees? Will you tolerate the nuisance known as accounting?
Granted, some situations demand an act-now-apologize-later approach. Airbnb’s co-founders initially subsisted on a revolving door of maxed credit cards. Even then, winging it will only get you so far. Stem, in itself the result of proper formation, hopes to help you determine whether you should do the same.
Why start a music startup?
LLCs and corporations exist, in part, to shield individuals from legal action enacted against them. Artists risk personal liability when they operate unprotected. Fictitious examples incoming!
Meet Winsie Woo, recording artist. She drives to the studio every morning to craft classics. This is a business-related activity she regularly conducts without the safe harbor of a separate business. One day, on her commute, she scrapes someone’s elbow with her vehicle. That person presses charges against Woo for $3 million. In a victory over common sense, the plaintiff wins. Winsie doesn’t have that kind of money, but she does possess assets—physical property (her home and car) and intellectual property (her music). The court orders her to liquidate assets (e.g. sell her home) to pay the plaintiff’s damages.
Pretty insane, right? A different outcome might have occurred if Winsie had filed for Wow That Song’s Tight, LLC before the accident—better yet, at the start of her career. In that version of events, her personal assets (her home) wouldn’t be up for grabs, only the business’ assets. To be clear, LLCs and S Corps exist to protect its owner (or ‘member’), less so the firm’s assets. If your company is listed as the owner of your copyrights, those assets are not safe in litigation.
Have you ever ordered too much food and finished the plate anyway, just because you paid for it? The power of self-investment isn’t far removed. It’s not free to form a business, and lifting it off the ground takes devotion. To even try reflects ambition and the sort of self-belief that ‘making it’ so often requires. Plus, those same startup costs can serve as initial goals.
Say you’re a California artist looking to register your first limited liability company. It will cost $800 per year in that state—substantially more expensive than most, fyi—to maintain good standing status. So, for the first year, setting the minimum earnings benchmark to $800 provides a concrete destination to shoot for.
Perception governs reality for just about every human on the planet. That includes writers, managers, programmers and agents. If someone sees “LLC” or “Inc” in your email signature, or receives a note from a custom address ([email protected]), that person might just hold your words (and the audio files attached) in higher regard. An associated company signals professionalism. It implies attention to detail and dedication.
That said, your company’s existence doesn’t promise an opening tour slot or even a response to your cold email. Think of it as a cherry on top, both within and beyond the industry. Attentive fans will notice your company name at the start or conclusion of videos. Core fans will likely buy products with your company name printed across if it’s eye-catching enough. Brockhampton’s Question Everything, Inc. constitutes a brand in itself. OVO would elicit top-of-mind recognition around the world.
How they work
As the adage goes, life guarantees two things: death and taxes. The Internal Revenue Service exists to keep us honest and keep the country’s public projects funded. After the IRS takes a portion of the money U.S. citizens earn each year, our government (local, state and federal) uses that money to support the common good (in theory). Most roads, bridges and military endeavors would not exist without taxes. Many social services, like Medicaid, would not exist without taxes.
If you make enough money in a calendar year to warrant filing (e.g. minimum earnings of $10,400 if you’re unmarried and under 65), you usually file by April 15 of the following year. So, if I’m single, younger than 65 and make $11,000 in 2018, I’ll have to file tax returns by mid-April of 2019. Millions of people file a report to the IRS that essentially says the following:
- “I earned (X) gross income last year.”
- Gross income equals income before applying deductions…
- …aka business expenses used to generate earnings (takes money to make money)
- “To earn (X), I had to spend (Y), which equals the sum of my deductions”
- “Subtracting my deductions (Y) from my earnings (X) gives me my net income (Z).”
- Net income equals income after applying deductions
- “(Z) puts me in tax bracket (A), so I owe the IRS (B)”
- Each bracket comes with a percentage multiplied against net income (Z) to arrive at total owed (B). See the brackets here.
Why deductions matter
Deductions matter because they decrease your net income, therefore lowering taxes owed. Say a song grossed you $100,000 in 2017. If you don’t list any deductions on your tax returns, you’ll pay a tax of $28,000 to reflect your 28-percent bracket. However, if you deducted the $20,000 producer fee paid to make that song, your taxable income drops to $80,000, good for the 25-percent bracket. Now, instead of paying $28,000 to the IRS, you’d pay $20,000. #Savings.
Most taxpayers can claim deductions on their personal returns, but having a company helps clearly distinguish between personal and business expenses. For example, dinner with mom isn’t deductible, but dinner with your manager is. Resultantly, having a business with a separate bank account should make it much easier to file returns each year. It can also make it easier to defend your filings if the IRS requests an audit.
How do I do any of this?
Excellent question. If you’ve made it this far and still want to consider starting your own business, here’s what we recommend.
- Ask yourself what you hope to achieve with your company (and why)
Profits & Losses
- Sum the total cost of starting a business in your state
- Sum the recurring annual fees required to maintain ‘good standing’ for your business
- Identify the gap (if any) between those costs and your music income
- Create measurable business goals for the month, quarter and year
- Ideate names you’d like to consider for your company
- Decide which state the company will call home
- Some states offer advantages absent elsewhere. Delaware has a court system specializing in business cases and does not require taxation on out-of-state income, a very big deal if most of your revenue doesn’t come from Delaware. However, if you don’t live in Delaware, you’ll have to pay for what’s known as a registered agent. Registered agents collect company mail and forward it to you.
- Determine whether you’re filing as an LLC, S Corp, or LLC taxed as an S Corp
- LLC: Offers legal protection for owner(s). LLCs with one owner do not file taxes as a business, unlike traditional corporations (c-corps, aka Apple). The company’s profits and losses ‘pass through’ to the individual, reflected in his or her personal tax filings. The LLC owner has to pay self-employment taxes as a result, which can lead to excess losses avoidable via S Corp taxation
- S Corp: Offers the same legal protection for owners as LLCs. While they are more difficult and expensive to maintain, S Corps provide tax benefits to those making decent money (or lots of money). Why? You can give yourself a reasonable (industry standard) salary and provide yourself extra profits earned from the company through dividends (recurring payments, from the company to you, that are taxed less than normal income)
- LLC taxed as S Corp: You can actually choose to do this during the IRS filing process for your music startup. This often provides a best-of-both-worlds solution where costs and complexities are minimized but the benefits of avoiding self-employment tax are gained
- Determine the scope of your potential business to see if a formal trademark makes sense
- If your business operates nationally or relies on the internet—likely outcomes for artists in 2018—you should consider filing for a formal trademark with the United States Patent & Trademark Office (USPTO)
- Trademarks provide legal protection for words and designs within relevant industries. Apple trademarked its logo with the U.S. government to have legal protection in the event another company tried selling related products (e.g. phones or tablets) with a logo that bore uncanny resemblance
- Even if you don’t file with the USPTO, you still have common trademark protection, similar to how artists own the copyright to their original work the moment it’s recorded or written somewhere tangible. However, these protections don’t extend beyond the region surrounding your place of business, and it’s a wise decision to make it official
- Search for your company name (and logo, if you have it) using the Trademark Electronic Search System
- If your desired company name is available, move forward to the filing stage. If not, consider an alternate route that can lead to proper trademark
- Complete the entire process through companies like LegalZoom or Stripe, which recently added LLC formation to their list of services. If you choose not to…
- Check availability of the desired company name by visiting your Secretary of State website
- Ask to look over all important forms prior to filing if working with a business manager, attorney or tax agent—it’s crucial to double check these things
- File Articles of Organization through Secretary of State
- File Statement of Information if relevant. Individuals registering in California can do so here
- File for your trademark through the USPTO
- Pay any upfront fee owed (California requires an aforementioned $800 annual tax)
- Wait for the papers to arrive in the mail and sign!
- Consider creating an Operating Agreement. Most states don’t require this, but it helps in legal settings. For instance, if you co-own an LLC with your business partner, it’s wise to agree, in writing, on what happens if one of you leaves the business, or how profits will be split if things go well
Business Bank Account
- Apply for an Employer Identification Number (EIN) if you did not receive one already from a third-party package (e.g. LegalZoom). You can do so online here once you have registered your company
- Take your Articles of Organization, Statement of Information, photo ID and EIN to a bank and open a small business account
- Use the accompanying credit card and/or debit card strictly for business expenses
- Invest in tools like Expensify, Invoice2go or QuickBooks to track expenses and revenue (don’t wait until it’s tax time). Click here for a complete list of tools to help artists run their team like a startup
- Make sure contractors (and, generally speaking, all bills) address your company first, e.g. Company LLC, not you personally. This ensures you can clearly prove what expenses were business expenses if you’re audited by the IRS
- Get familiar with a few key tax forms, especially W-9s and 1099s. If you pay a graphic designer $300 for your album artwork, that’s considered a contractor expense. If you pay a contractor more than $600 for their services, or more than $10 in royalties, in a year, you have to send a 1099 form both to that person and to the IRS at the end of each year
- Input necessary events into your calendar (e.g. April 15: 1040s Due or January 31: 1099s Due), set them to repeat annually and program alerts hours, days and weeks in advance as a reminder safety net
Don’t Stop Here
We highly encourage readers to consider this article a stepping stone toward additional research. Stem is happy to solicit foundational knowledge, but trained professionals know best. The peace of mind that can come from walk-in tax consultations at H&R Block (they’re not scary!) or semiannual accounting check-ups with a CPA warrant the upfront cost.
However monotonous, proper business administration and government compliance build invaluable habits that transcend the (mildly unexciting) tasks required. This is not legal advice, simply a high-level roadmap to help make your music startup official.