Part 2: Legal Forms of Ownership

In the first part of this series, I discussed why it makes sense to begin your label with a compilation. In short, it gives you the maximum bang for your effort, both from a financial and branding perspective. Further, artists are much more willing to sign on to a heretofore unknown label if said label is only asking for one song, as opposed to an entire albums-worth of material. Because of this, you are far more likely to get an artist who has a bit of a track record to sign on to do the comp. Having one (or, preferably, two or three) of these artists on the comp will help you generate interest from press, radio, retail, and fans. In short, you’re leveraging all the work that these successful artists have already done to help brand your new label. In return the bands get more exposure, and potentially a few bucks out of the deal. Do real well with the comp, and you may also have one of these artists talking to you about releasing their next full-length album.

So, given that premise, it’s now time to talk about what exactly needs to be done so that you can begin working with these artists; this means talking about some legalities. While I’ll keep this brief, it is essential and I’d be remiss if I didn’t suggest that you consult with an entertainment lawyer. Note that I didn’t say, “Consult with your Aunt Sophia the real estate attorney”. While Sophia may very well be a great real estate lawyer, there is a lot of nuance to the record business that someone who doesn’t work in the field on a daily basis can’t be expected to know (I’m certain there’s a lot of nuance in the real estate industry too, and I wouldn’t recommend that you use an entertainment lawyer when you go to close on your house).

There are really two legal issues we need to address here. First is the legal entity for your new label. Second is the type of legal issues (basically contracts) that you need to have with your artists. And, while this series is predicated on the idea that you will be releasing a compilation, the advice here is relevant even if you decide not to go this route. In this article, we’ll look at legal forms of ownership, and a little later in the series, we’ll address contracts.

Legal Forms of Ownership for your Label

Sole Proprietorship

In order to have a business (any kind of business), you must have a legal entity. Now, this legal entity can be you. By this I mean if your name is Joe Smith, and you want to start up Joe Smith’s record label, no one can stop you (unless there’s already someone named Joe Smith running a label). What you have created, in the eyes of the law, is a sole proprietorship. The issue is that if you go this route, in the eyes of the government (read IRS), any money you make from your record label is going to be viewed in the same way as any money you make any other way (your job, for instance). This is because all of your income from your label will be tied to the same social security number that all your other income is tied to, and that your bank accounts are tied to. This can really complicate things for tax purposes. Additionally, it can make you look sort of unprofessional. When you go to sell your compilation, either online or in stores, you’re going to have to tell people to whom they should make the check out. You really don’t want to have to say, “…uh, just make it out to me.”

d/b/a

There is a way around this unprofessional issue. You can start your label using your existent social security number, while still having a name for your label that’s a little snappier than your own name. The way you do this is by establishing what’s known as a “doing business as” or d/b/a. This means that you can have a legal form of ownership that might be something like: Joe Smith d/b/a Snappy Record Label. By going through the simple procedure of visiting your local town hall, filling out some forms, and then opening a business bank account, you can then have people write checks to Snappy Record Label, as opposed to Joe Smith. You can even have some checks made up with “Snappy Record Label” on them, so that you can pay your bills in a more professional manner.

While the outward appearance is significantly different between Joe Smith and Snappy Record Label, it’s real important to remember that in the eyes of the law there is NO difference; each are sole proprietorships. Snappy Record Label is no different than Joe Smith; same tax ID (social security number), same liabilities (if Snappy Record Label gets sued for whatever reason, its Joe Smith’s money that is risked), etc. For these reasons, most people determine that while a d/b/a may be a good way to start (because of its simplicity and cost-efficiency of formation), it’s not a good long-term solution.

Corporations

The alternative is to create a legal form of ownership that is separate and distinct from yourself. In this way, you have a tax ID that is different from your social security number, and you limit the amount of risk that can be directly connected to you. The way to do this is by forming a corporation. There are a number of different types of corporations, but I’m only going to cover two of them here. As stated at the beginning of this section, while I’m 100% for DIY, this is an area where you really do need to consult a qualified attorney in order to make sure you set everything up in the proper manner. That said there’s a lot you can do on your own prior to bringing an attorney into the picture. In this way, you’ll save yourself a bundle in legal fees.

LLCs

The first type of corporation I want to briefly examine is what is known as an LLC. LLC stands for “limited liability corporation.” An LLC does just that: it limits the amount of liability you have, should you run into problems. For instance, if a band you signed ends up crashing their van into an antique store and destroys a couple hundred thousand dollars worth of furniture, you can bet that the antique store’s owner is going to go after anyone and everyone that she might be able to recover money from. If your legal form of ownership is simply a d/b/a, your personal assets are very much at risk. However, if you’ve established an LLC, you’re liability is limited. In short, the antique store owner can’t go after, say, your house or savings account. The antique store owner can go after assets owned by the LLC (the label’s assets), but there’s a wall between the LLC’s assets and your personal assets. This is a good wall!

In order to establish an LLC, you must create articles of incorporation which detail exactly what it is you do, and you must file these articles with your state. You must then fill out the appropriate IRS forms. There is an initial fee, and then a yearly maintenance fee. If this all sounds a bit much, it’s because it is a bit much. Basically, the government wants to discourage people who aren’t really serious about starting businesses. However, for those who are serious, going through the process of creating articles of incorporation can be a very beneficial thing. As mentioned, it’s helpful to have an attorney work through this process with you.

While an LLC is great for the reasons listed above regarding liability, as well as for tax reasons that are too in depth for this article to go into, it does have one major drawback: an LLC cannot issue stock. This may not seem like a big deal (and there are ways around it, though they’re a bit unwieldy), the ability to issue stock can be very beneficial not only for the obvious money-raising reasons, but also because stock is currency that can be utilized, for example, to attract artists to your label.

S-Corporation

Fortunately, if you want to issue stock, there is a way for you to do it. It requires another layer of complexity as compared to an LLC, but by forming an S-Corporation, you can establish a value for your company, and then issue shares to reflect that value. These shares can then be utilized to attract potential artists, employees, or investors. Of course, you are diluting your own interest in your own company when you give out these shares, but, for some, there is simply no other way to attract the necessary “talent” to the team.

While I stressed the importance of using an attorney should you choose to form an LLC, I’m insisting that you use an attorney should you determine that an S-Corporation is the way you’re headed.

I’m not going to spend more time on this here, because I imagine that the vast majority of you will begin with a d/b/a, and that a smaller percentage will opt for an LLC, thus leaving a teeny number interested in an s-corporation—and those people need to get an attorney.

Summary

The important thing to realize as you begin your label is that you must have some legal form of ownership. If you don’t choose one, you will, de facto, be a sole proprietorship, and all of your label’s earnings (or losses) will be tied to your personal social security number. Similarly, all of the liability will be connected directly to you. One small step up from this is achieved by establishing a d/b/a, which at least allows you to have a proper business name for your venture rather using your own name. In this way, you can write and cash checks under your business’s name. Remember, however, in the eyes of the IRS and the law, you’re still just a sole proprietorship. A big jump up from this is the formation of a corporation that allows you to separate both the finances and liability of your venture from your personal identity. You can opt for an LLC—which is relatively easy to form, and has some tax advantages, but doesn’t allow you to issue stock, or you can go for an S-Corporation, which does allow the formation of stock. Whichever you chose, do consult professionals—both attorneys and tax specialists—to be certain that you’ve got everything in order.

Working through these issues is in large part what business is about. While we’ll move on to the more creative elements soon enough, you must understand that starting a label is a real responsibility that requires a level of seriousness that many people don’t have. If all this talk of corporations and tax IDs is making you queasy, you may want to consider pulling back from this; starting a label (or any other business) may not be right for you, and that’s OK. Just remember, you don’t have to love these business details, you don’t even have to like them, but you do have to deal with this stuff if you want to really run a label. Being willing to do so separates you from the countless people who sit idly by wishing they could start a business, but are unwilling to really deal with the seriousness of such a venture. For those who are willing to do some things that others won’t or can’t, there are unknowable rewards. Let’s get to ‘em!