Opening a restaurant can be an exciting venture, filled with the promise of creativity, community, and culinary delights. For investors, there is the allure of high returns and a tangible, enjoyable product. However, it's also a business that operates under a complex web of legal regulations with potential pitfalls for restaurateurs and investors alike. To help those new to the industry, we have compiled a list of five key legal considerations to keep in mind when either opening or investing in a restaurant.
1. Choice of Entity and Tax Obligations
Starting a new restaurant is an exciting venture, but it comes with a host of legal and financial considerations. One of the most crucial, initial decisions a restaurateur will make is selecting the right business structure. Each structure has different implications for control, returns, and risk, and the best choice depends on the specific circumstances of the restaurant, including the business goals, the number of owners, and whether the restaurant will require outside investment in the form of equity, loans, and/or convertible debt. Here, we'll briefly explore the most common legal entity structures for new restaurants and the pros and cons of each.
A. Sole Proprietorship
A sole proprietorship is the simplest and most common structure for small businesses. If you're the sole owner of the restaurant, this might be an appealing option.
Pros:
Easy and inexpensive to establish.
Complete control over the business.
Simplified tax reporting.
Cons:
Unlimited personal liability for business debts and obligations.
Difficulty raising capital.
Limited lifespan of the business tied to the owner's life.
B. Partnership
A partnership involves two or more people who agree to share the profits and losses of a business. This can be a good choice if you're starting the restaurant with one or more partners.
Pros:
Easy to form with a partnership agreement.
Combined resources and expertise.
Pass-through taxation (income is reported on partners' personal tax returns).
Cons:
Joint and several liability for business debts.
Potential for conflicts between partners.
Shared profits.
C. Limited Liability Company (LLC)
An LLC is a hybrid structure that offers the liability protection of a corporation with the tax benefits of a partnership. This is a popular choice for new restaurants.
Pros:
Limited liability protection for owners.
Flexible management structure.
Pass-through taxation (or option to be taxed as a corporation).
Cons:
More expensive to form than a sole proprietorship or partnership.
Ongoing compliance requirements (filing fees, annual reports).
Complex operating agreement required.
D. Corporation
Forming a corporation provides the most protection from personal liability, but it also involves more complexity and regulation. There are two main types: C corporations and S corporations.
C Corporation Pros:
Limited liability protection for shareholders.
Unlimited number of shareholders.
Easier to raise capital through the sale of stock.
C Corporation Cons:
Double taxation (profits taxed at the corporate level and again as shareholder dividends).
More regulatory requirements and formalities.
More expensive to establish and maintain.
S Corporation Pros:
Limited liability protection for shareholders.
Pass-through taxation (avoids double taxation).
Potential tax savings on self-employment taxes.
S Corporation Cons:
Limited to 100 shareholders.
Shareholders must be U.S. citizens or residents.
More regulatory requirements than an LLC.
Understanding the restaurant's tax obligations is crucial for financial planning and compliance as restaurants are subject to various taxes, including income tax, sales tax, and payroll tax.
2. Employment Law
Hiring staff brings with it a host of legal obligations. Understand the laws around wages, working hours, overtime, and employee benefits. It is important that restaurant employment practices comply with federal and state labor laws such as minimum wage laws, overtime regulations, and non-discrimination policies.
One important aspect of these regulations is the New York tip credit, which enables employers to count a portion of an employee's tips towards meeting the state's minimum wage requirements. A full explanation of these rules is beyond the scope of this alert, please contact your Frankfurt Kurnit attorney to discuss.
3. Lease Agreements
As one of the most expensive fixed costs, it is necessary that a restaurant negotiate a lease agreement that suits its long-term business goals, while remaining realistic about its current state of operations. Close attention to terms related to rent increases, property maintenance, renewal options and "good guy guarantees" is crucial.
4. Intellectual Property
Protecting a restaurant's brand is essential. Consider trademarking the restaurant's name, logo, and any unique menu items to prevent others from using them. Protecting these assets is crucial for maintaining the restaurant's brand identity and competitive edge. Additionally, be mindful of copyright laws when creating marketing materials, menus, and website content.
5. Contracts with Suppliers
Establishing solid relationships with restaurant suppliers is critical for a smooth operation. Ensure that contracts with food and beverage suppliers, equipment vendors, and service providers are clear and detailed, with particular attention to terms related to delivery schedules, payment terms, and quality standards.
Conclusion
Launching a restaurant involves more than just creating a fantastic menu and a welcoming atmosphere. And investing in restaurants requires careful consideration of various legal aspects to ensure a sound and profitable investment. By addressing these five considerations, you will be better prepared to build a successful and legally compliant restaurant business.
This alert provides general coverage of its subject area. We provide it with the understanding that Frankfurt Kurnit Klein & Selz is not engaged herein in rendering legal advice, and shall not be liable for any damages resulting from any error, inaccuracy, or omission. Our attorneys practice law only in jurisdictions in which they are properly authorized to do so. We do not seek to represent clients in other jurisdictions.