Archive for the ‘Law Articles’ Category

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Paul Battista Answers A Question About Permission Needed To Use Movie Review Quotes On A DVD Cover

January 19, 2011

Paul Battista answers a question about life rights agreements at the Film Courage Legal Corner Question and Answer.

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Paul Battista Answers A Question About Life Rights Agreements For Feature Films

December 22, 2010

Paul Battista answers a question about life rights agreements at the Film Courage Legal Corner Question and Answer.

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Paul Battista Answers A Question About Residuals For Actors Under The SAG Ultra Low Budget Contract

December 8, 2010

Paul Battista answers a question about SAG residuals at the Film Courage Legal Corner Question and Answer.

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Independent Film Producing, The Outsider’s Guide: Book Introduction

June 17, 2010

Read the Introduction:  IFP Outsider’s Guide Introduction


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California Tax Incentives For Film & Television

July 30, 2009

Tax Incentives For Film and Television Productions:  California Joins the Party

Paul Battista, Esq.

California has passed legislation that allows the California Film Commission (CFC) to allocate up to $100 million of tax credits per year for five years to “qualified” taxpayers producing film and video projects as long as they meet certain requirements.  Up to $10 million of the $100 million of tax credits each year are reserved for “independent films.”  The CFC will issue Tax Credit Certificates beginning on January 1, 2011 but it began accepting applications for the credit on July 1, 2009, and has announced that it has notified twenty-five productions that they qualify for the credits.  Under the California Film & Television Tax Credit Program” (the “Program”), an “independent film” and a “television series that relocated to California” can receive a tax credit equal to 25% of “qualified expenditures.”  A “feature film,” “miniseries,” “movie of the week” and a “television series” are eligible to obtain a tax credit equal to 20% of “qualified expenditures.”  Either 75% of total principal photography days or 75% of the production budget must occur in California to be eligible for the credits.

“Qualified expenditures” include expenditures incurred in California for pre-production, production and post-production.  The CFC was empowered to provide a “schedule of qualified expenditures” listing all “qualified expenditures” eligible under the Program (California Code of Regulations, Title 10, Chapter 7.5, “California Film & Tax Credit Programs”), and the CFC has made guidelines available on its website entitled “Qualified Expenditure Charts,” which can be found at http://www.film.ca.gov/incentives/Qualified_Expenditures.html.  These charts represent a guide not an exhaustive list of “qualified expenditures.”  The CFC states that “qualified expenditures” do not include costs for development, marketing, publicity and distribution.  Examples of “qualified expenditures” include but are not limited to:  a)  wages paid to certain crew and staff;  b)  equipment and facilities rentals;  c)  construction and set decorations costs;  d)  certain vehicle rentals;  e)  film stock and development; and f) special effects.  Examples of costs that are not “qualified expenditures” include but are not limited to:  a)  expenses with respect to acquisition, development, turn around or related rights;  b)  wages paid to writers, producers, executive producers, line producers, associate producers, directors, principal cast, supporting cast and stunt players;  c)  expenses related to financing, overhead, marketing, publicity, promotion or distribution;  d)  expenses related to the creation of any ancillary products such as soundtracks, toys, video games, trailers or teasers;  and e)  state and federal taxes.

Certain productions are not eligible to receive tax credits under the Program including the following:  a)  commercials;  b)  music videos;  c)  “television pilots”;  d)  news programs, current events or public affairs programs;  e) talk shows, game shows and “strip shows”;  f)  sporting events;  g)  half hour episodic TV shows that are not a “television series that relocated to California”;  h)  awards shows;  i)  productions that solicit funds;  j)  “reality programs”;  k)  student films, industrial films and documentaries;  l)  clip-based programs with more than 50% of its content comprised of licensed footage;  m) variety programs;  n)  daytime dramas;  and o)  sexually explicit programs for which records must be maintained for performers under Section 2257 of Title 18 the United States Code.

There are also minimum and maximum production budget expenditure amounts necessary to qualify for the Program.  A “feature film” must have a minimum production budget of $1 million and a maximum of $75 million, while an “independent film” must have a minimum budget of $1 million and a maximum budget of $10 million.  A ‘movie of the week” or “miniseries” must have a minimum budget of $500,000 and a “television series” licensed for original distribution on basic cable must have a minimum per episode budget of $1 million.  There is no minimum per episode budget requirement for a “television series that relocates to California.”

A “qualified taxpayer” can apply the allocated credit amount against the taxpayer’s “net tax” owed on its tax return filed with the California Franchise Tax Board (“FTB”).  The taxpayer generally can elect to split the credit amount and apply it against income tax liability and sales and use tax liability.  If the amount of the tax credit exceeds the “net tax” owed by the taxpayer in any tax year then the excess credit amount can be carried forward to reduce the taxpayer’s “net tax” liability for the subsequent five years until the credit amount is exhausted.  The tax credits are not refundable which means that the tax credit can reduce a taxpayer’s liability to zero, but cannot create a cash refund to the taxpayer.  The tax credits are not transferable to any third party unless the credits are attributable to an “independent film” which generally is a production with a budget between $1 million and $10 million and is produced by a company that is not publicly traded.  A “miniseries” or “movie of the week” falling within this latter definition may also be considered an “independent film,” and therefore be eligible to obtain transferable credits.  Before selling credits attributable to an “independent film” a taxpayer must notify the California FTB of any such sale and provide further information required by the FTB.  Any money received in exchange for the credits is not tax free, and the taxpayer must report the money as taxable income.  Further, the qualifying tax credits can only be sold once, i.e., they cannot be resold by the unrelated party to another taxpayer.

There are numerous other requirements for a production to the gain approval to receive the tax credits.  The required applications, forms and documents to be submitted are outlined in a checklist provided by the CFC on its website at http://www.film.ca.gov/pdf/Checklist60109.pdf.  Although the CFC began accepting applications beginning July 1, 2009 any tax credit ultimately issued to a taxpayer cannot be applied against tax liabilities until the tax year beginning January 1, 2011.  The CFC will notify an applicant of acceptance or rejection of its application within twenty business days of receiving a complete application and supporting documents.  A taxpayer must then commence principal photography no later than six months after the CFC approves the application, and postproduction must be completed within thirty months of CFC approval.

Legal Disclaimer: The information contained herein is general in nature. It is for informational purposes only and provides an overview of a few legal principles. The information provided is not guaranteed to be up to date or correct. The information contained in this blawg is not, nor is it intended to be, legal advice. It should not be relied upon in making specific legal decisions, but you should consult an attorney regarding your specific situation. Receiving this transmission and/or reading the information in this transmission does not establish an attorney-client relationship. A written, signed retainer agreement is required for representation.

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ARTICLE: TAX ASPECTS OF RECEIVING STOCK IN EXCHANGE FOR PROVIDING SERVICES TO A CORPORATION

September 21, 2008

TAX ASPECTS OF RECEIVING STOCK IN EXCHANGE FOR PROVIDING SERVICES TO A CORPORATION

Paul Battista, Esq

It is common for start-up and established corporations to offer stock to employees and/or independent contractors in exchange for services provided.  Corporate stock provided by a company in exchange for services may take several forms, including:  (1) “incentive stock options” (“ISOs”); (2) “nonstatutory stock options” (“NSOs”); or (3) “restricted stock”.  Each form, however, is accompanied by different tax consequences.

Incentive Stock Options

ISOs are options granted by a corporation within a plan qualified under Internal Revenue Code (the “Code”) section 422.  Options that meet section 422 requirements may be issued and exercised without any immediate tax liability to the recipient; tax liability arises when the recipient sells the stock.  The Code requires the recipient to hold the stock for at least two years after the grant of the option, and at least another one year after exercising it. Upon selling the stock the recipient reports the amount received, minus the exercise price, as a long-term capital gain.  Recipients generally find options granted via an ISO plan more advantageous, however, they are generally more burdensome for the corporation to establish and maintain compared to other plans which offer stock in exchange for services.  The statutory requirements for the qualification of an ISO plan include the following:  (a)  it must be granted under a detailed “plan” which states the number of shares that may be issued, the employees or class of employees eligible to receive grants and be approved by the shareholders of the corporation within twelve months before or after the date the “plan” is adopted;  (b)  it must be granted within ten years after such adoption or approval of such “plan”, whichever is earlier;  (c)  it must have an exercise price of the option that is not less than fair market value of the stock as of the grant date;  (d)  it must be exercisable by the employee only within ten years from its grant date, or five years if the recipient owns 10% or more of the company ( a further requirement in such circumstances is that the exercise price of the option must be at least  110% of fair market value);  (e)  it must be nontransferable;  (f)  it must require the recipient to be an employee of the corporation from the date of the grant of the option until three months before the exercise of the option;  (g)  it must not exceed an aggregate amount of $100,000 per employee per calendar year;  and,  (h) it must meet other statutory and reporting requirements.

Nonstuatory Stock Options

“Nonstatutory Stock Options” (also called “nonqualified stock options”) are options that do not meet the requirements of an ISO.  These options do not need to be issued pursuant to a “plan”; furthermore, if a “plan” is used it is not required to adhere to the provisions of an ISO plan.  If an NSO has a “readily ascertainable fair market value” at the time it is granted, then the option is taxed to the recipient at the time of such grant.  If the option does not have a “readily ascertainable fair market value” when it is granted, then the recipient is taxed when the option is exercised and tax is paid on the difference between the stated option price and the value of the stock at the time the option is exercised.  In either case, the tax rate that is applied is the applicable ordinary income tax rate (currently ranging from 10% to 35%) rather than the lower long-term capital gain tax rates (applicable to stocks that are held for longer than one year).   According to Treasury Regulation section 1.83-7 (b)(1), options that are actively traded on an established market are considered to have a fair market value that is “readily ascertainable.” Options that are not actively traded on an established market most likely will not have a “readily ascertainable” fair market value because of the difficulty of substantiating such a position which can be supported if the taxpayer complies with the following requirements:  (1)  the option must be freely transferable;  (2)  the option must be exercisable immediately in full;  (3)  neither the option nor the stock can be subject to any restriction which has a significant effect on the fair market value of the option;  and (4)  the following factors are fulfilled:  (i)  the value of the stock subject to the option is ascertainable;  (ii) the probability of any ascertainable value of such stock increasing or decreasing is obtained;  and (iii)  the length of time during which the option is exercisable can be determined.    Treasury Regulations sections 1.83-7(b)(2) and (b)(3).

Restricted Stock

Generally, options such as an ISO or NSO represent a right and not an obligation to purchase a corporation’s stock for a pre-determined price within a stated period of time.  An alternative to stock options is the issuance of “restricted stock” which is stock that is actually issued to a service provider but it is issued subject to certain restrictions.  A corporation has wide latitude in determining the restrictions it will place on such stock transfers.  Some of the more common restrictions include performance based criteria or vesting criteria.    These criteria may be based upon such things as exceeding stated corporate economic goals or the requirement that the employee remain an employee of the company for a certain period of time.  In the context of “restricted stock”, vesting refers to a time when such stock is no longer subject to being reclaimed by the company from the recipient.   For tax purposes, if stock is received outright in exchange for the performance of services (i.e., without being subject to restrictions), then the recipient is immediately taxed on the difference between the value of the stock and the amount (if any) the recipient paid for such stock.  In such a situation the recipient would be required to pay a tax at ordinary income tax rates (currently ranging from 10% to 35%).  However, if the stock is subject to “a substantial risk of forfeiture” then, for tax purposes, the recipient has received “restricted stock.”  In such instances, tax consequences will apply in the first taxable year when the interest in the stock is either not subject to “a substantial risk of forfeiture” or is transferable free from any substantial risk of forfeiture affecting the stock.  In such first taxable year the recipient is taxed to the extent the fair market value of the stock exceeds the amount (if any) paid for such stock.  This taxable amount is subject to the applicable ordinary tax rate (currently ranging from 10% to 35%).  In either situation the employee can expect to pay tax at ordinary income tax rates, whether immediately in the former situation or at a subsequent date in the latter situation.  The recipient should be aware of a possible tax trap when receiving restricted stock.  Even if the recipient recognizes the tax trap, exactly how to handle it remains an issue because whether the stock’s value will increase or decrease over time and whether or not the stock will be forfeited before it vests with the employee cannot be easily predicted.

By way of example, consider a case where a company gives compensation to an employee which includes 100,000 shares of stock having fair market value of $1 a share in the year 2008 with the proviso that the shares are subject to complete forfeiture if the employee fails for any reason to remain in the employ of the company for five years.  This would be considered a “restricted stock” issuance.  Although the shares are valued at $100,000 on the date they are granted in 2008, the employee does not owe tax on the $100,000 in 2008 because the stock is subject to a “substantial risk of forfeiture” (i.e., he or she must remain employed with the company for five years before the stock vests).  If the employee fulfills the five year requirement and the value of the shares rises to $1,000,000, the employee will be very happy, that is until April 15th when he or she is informed that $1,000,000 will be included in his or her ordinary income in that year because that the stock is no longer subject to the “substantial risk of forfeiture”.  The tax would be due whether or not the taxpayer sells the shares. The issue with “restricted stock” is a “timing” one in that if the stock had been included in the employee’s income in 2008, he or she would have been responsible to immediately pay income tax (at ordinary tax rates) on $100,000.  No additional tax liability would have been incurred until he or she disposed of the stock at some future date.  Further, if that date were to be more than one year from issuance it would be taxed as a long-term capital gain which would represent a significantly lesser tax obligation than if taxed at an ordinary income rate (at existing rates).

However, Code section 83 is designed to address this situation.  A taxpayer who receives “restricted stock” (i.e., stock subject to “a substantial risk of forfeiture”) is allowed to make a “section 83(b) election” by which the taxpayer, upon receipt of the stock, may report the excess of the current value of the stock received ($100,000 in the above example) over the amount paid for the stock (if anything) which is taxed at ordinary tax rates in the year received (2008 in the above example).  For a section 83(b) election to be valid it must meet certain requirements, not least of which is that the election must be made within thirty days of the transfer of the stock.  Under Treasury Regulations section 1.83-2 (f), the Internal Revenue Service will only consent to a revocation of election in cases where the employee is under a mistake of fact as to the underlying transaction (and such request must be made within sixty days of the date on which the mistake of fact first became known).  Generally, a mistake about the tax consequences of making an election, or the inability to pay the tax, or the mistaken belief that the stock would appreciate and not decline or similar types of mistakes will not provide grounds for revocation of the election.  As mentioned above, as to whether the stock’s value will increase or decrease by the time the stock is no longer subject to a “substantial risk of forfeiture” and whether or not the stock will be forfeited before it vests with the employee are factors which make the section 83(b) election more of a gamble.  If the stock in the above example should decline to $.10 per share by year five, then the employee paid income tax (and federal and state employment tax withholding) on $100,000 when issued rather than the lower amount of $10,000 in year five when the stock vests.  It is also not guaranteed that the employee will fulfill the requirements (such as remaining an employee for five years) in which case the stock never vests and the employee paid tax on stock he or she never received.

As a practical matter, tax consequences of ISOs, NSOs and restricted stock are often overlooked by the recipient until it is too late for the application of the most efficient tax planning.  Such practical factors include the short time period normally associated with negotiation and consummation of employment agreements and the possibility of severe negative financial consequences by the failure of the recipient to recognize the need to consult a tax attorney at the earliest stage of the process.

Legal Disclaimer: The information contained herein is general in nature. It is for informational purposes only and provides an overview of a few legal principles. The information provided is not guaranteed to be up to date or correct. The information contained in this blawg is not, nor is it intended to be, legal advice. It should not be relied upon in making specific legal decisions, but you should consult an attorney regarding your specific situation. Receiving this transmission and/or reading the information in this transmission does not establish an attorney-client relationship. A written, signed retainer agreement is required for representation.

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ARTICLE: PIERCING THE CORPORATE VEIL

February 6, 2008

Piercing the Corporate Veil

Paul Battista, Esq.

Many advantages can be elicited by the creation of an entity through which a business is conducted.  One of the most attractive features of an entity such as a corporation or a limited liability company is that the owners of the entities are protected from personal liability for the debts, obligations or liabilities of a business.  In general, the owner’s liability is limited to the amount they invested in the entity.   However, this protection is limited by the right of creditors to sue the owners by claiming that these individuals should be held personally liable for a judgment obtained against the entity.  Commonly referred to as the “piercing the corporate veil” or “alter ego” theory, it is widely believed to be the most litigated issue in corporate law.  Most alter ego claims arise from transactions between private parties, but the government can also utilize the doctrine.  For example, the Internal Revenue Service pursues “alter ego liens” because a federal tax lien can attach to all property, and rights to property, of a taxpayer.

In California, a member of a limited liability company shall be subject to liability under the common law governing alter ego liability, and shall also be personally liable …for any debt, obligation, or liability of the limited liability company, whether that liability or obligation arises in contract, tort or otherwise, under the same or similar circumstances and to the same extent as a shareholder of a corporation may be personally liable for any debt, obligation or liability of the corporation.  Beverly-Killea Limited Liability Company Act, section 17101 (b).

Regardless of which type of entity is pursued (corporation or limited liability company), the general rules governing the application of this doctrine are well established in California.  There are two elements that an alter ego plaintiff must prove:

1)      That “there is such a unity of interest between the entity and another person or entity that they have no separate existence”;  and

2)      That an inequitable result would follow if the entity alone is held liable for the contract or tort.

In discussing the doctrine of alter ego, the California Supreme Court has held that “there is no litmus test to determine when the corporate veil will be pierced; rather, the result will depend on the circumstances of each case.” (Mesler v. Bragg Management Co., 39 Cal 3d 290, 216 Cal Rptr. 443 (485).

A review of the cases which have discussed the alter ego issues reveals that the court will consider a variety of factors in making its decision.  Those factors include, but are not limited to, the following:

(a) Commingling of funds and other assets;

(b) Failure to segregate funds of separate entities;

(c) Unauthorized diversion of entity funds or assets to other than the entity’s uses;

(d) The treatment by an individual of the assets of the entity as his or her own;

(e) The failure to obtain authority to issue stock or membership interests;

(f) The failure to maintain adequate entity records;

(g) The use of the same office or business location for two or more entities;

(h) The employment of the same employees for two or more entities;

(i) The failure to adequately capitalize an entity;

(j) The total absence of entity assets;

(k) The use of the entity as a mere shell, instrumentality or conduit;

(l) The disregard of legal formalities;

(m) The failure to maintain arm’s length relationship among related entities; and,

(n) The contracting with another to avoid performance by using the entity against personal liability (i.e. as subterfuge).

The court, in Associated Vendors v. Oakland Meat Co., Inc. (210 Cal.App.2d. 825, 840), stated that it is important to note that a “perusal of the cases reveals that in all instances several of the factors (are) present.”  Although a court will examine all of the factors in an alter ego claim, in California the factor most often found as the key factor in piercing the corporate veil is the undercapitalization of a company.  Undercapitalization can be obvious when, for example, a company holds no capital upon formation and continues to have no capital during the time it is conducting business. The courts will, however, also review the amount of capital a company holds in relation to the business of the company.  The theory underlying this inquiry is that the owners of a company should in good faith put at risk the amount of capital necessary to meet prospective liabilities of its endeavors, and if the court finds that the amount of capital contributed by the owners is illusory or trifling compared with the business to be done and the risk of loss, then it will find grounds to pierce the corporate veil and hold the owners personally liable for a judgment.

Limited liability protection provided by entities such as corporations and limited liability companies has been cited as essential for the growth of the economy because it allows owners to engage in economic risks that are quantifiable and circumscribed. The doctrine of piercing the corporate veil, however, attaches personal liability to the owners of these entities under certain circumstances, and has been created by the courts as an equitable remedy to counterbalance the relatively few individuals who subvert the advantages of limited liability to evade rightful creditors, to perpetrate frauds or to promote injustices.

Legal Disclaimer: The information contained herein is general in nature. It is for informational purposes only and provides an overview of a few legal principles. The information provided is not guaranteed to be up to date or correct. The information contained in this blawg is not, nor is it intended to be, legal advice. It should not be relied upon in making specific legal decisions, but you should consult an attorney regarding your specific situation. Receiving this transmission and/or reading the information in this transmission does not establish an attorney-client relationship. A written, signed retainer agreement is required for representation.