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After his victory over Manny Pacquiao in what was billed as "The Fight of the Century", Floyd Mayweather was stripped of his boxing welterweight world title two months later. Mayweather didn't lose his title for improprieties in the ring or outside of it. He lost the world title because he failed to pay the required sanctioning fee for the fight. The amount of the fee ($200,000) was trivial when measured against his earnings from the fight, which amounted to at least $180 million.
How does this relate to expanding your business beyond your home state, your state of formation or incorporation? A corporation or LLC cannot just transact business in states other than its home state. It needs the state’s sanction to do so like Floyd Mayweather needed his boxing match to be sanctioned.
The corporation or LLC needs to obtain a certificate of authority to conduct business in a new state. This process, often known as foreign qualification or foreign registration, ensures that the public has access to basic information about the company such as its legal name, business address, and name and address of its registered agent for service of process.
Like Floyd Mayweather was penalized for his non-compliance, the states penalize foreign corporations and LLCs that do business in the state without complying with their foreign qualification requirements. The states generally deny these non-compliant companies access to their court system. While they are usually able to defend themselves whether or not they’ve registered in the state, they won’t be able to bring a lawsuit to assert a claim against someone who has wronged them. This can prove costly.
A manufacturer sued a customer for failure to pay for $300,000 worth of goods (Drake Manufacturing Company, Inc. v. Polyflow, Inc.). The purchaser didn’t claim that the products were defective. It didn’t deny that it hadn’t paid. Instead, it argued that the manufacturer had no right to sue because it hadn’t registered to do business in the state. And, the purchaser won. Generally, you can “cure” the problem by registering with the state before bringing a lawsuit—and once the lawsuit has been brought the courts may stay the proceeding and give the company a chance to qualify. But, it’s risky to count on curing a problem that is so easy to prevent.
Even though a company generally is able to defend itself when sued, the company must be aware of the lawsuit in order to do so. When you foreign qualify, you must appoint a registered agent. This is a person or corporate service company that can receive the legal papers and forwards them on to the appropriate person at the company. Although in general, the person suing does not have to serve the registered agent, many do, which helps ensure that the company will receive notice of a lawsuit. Someone suing a company doing business without qualifying will be serving someone other than a competent registered agent. This could result in you not learning of the lawsuit until a default judgment has been entered against your company. Again, you may be able to set aside the default judgment, but quite often the courts are unwilling to get you out of a mess that you got yourself into by not following the state’s rules.
There can be unfortunate consequences other than lack of access to the court system. The corporation or LLC could be hit with fines, penalties and back taxes for the time it was transacting business without obtaining a certificate of authority to do so. And, in some states, individual officers or agents may be fined as well.
Don’t let your company be stripped of its rights by failing to foreign qualify in each state where the company is doing business. The best practice is to make sure that you take steps to obtain a certificate of authority before your company begins doing business in a state other than its home state.
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