A LEGAL & BUSINESS OVERVIEW
BY ERIC C. BELANGER, ESQ.
Please note that this article is based on the requirements of Massachusetts law and the 2014 economic market for establishments located in the metro-Boston area. Please contact us if you would like information regarding opening a bar, restaurant or nightclub in another locality or state.
Owning a bar, restaurant or night club can be an exciting opportunity and a lucrative business venture. However, along with bar, restaurant and nightclub ownership come a host of complex legal and business issues. ENDEAVORLEGAL attorneys regularly advise bar, restaurant and nightclub entrepreneurs regarding business planning, debt and equity financing, acquisition of commercial space, operation and purchase and sale of hospitality and entertainment establishments. The following is a general overview of many of the issues that must be considered when an entrepreneur is engaged in the process of purchasing and operating a bar, restaurant or nightclub.
Ownership and operation of a bar, restaurant or nightclub should be conducted under the umbrella of either a corporation or limited liability company. Hospitality and entertainment establishments are vulnerable to many types of legal claims; as such, owners must protect their personal assets (such as primary residence and retirement savings) from law suits arising in connection with the business of the bar, restaurant or nightclub. Learn more about corporations and limited liability companies and the limited liability protections they offer by clicking on the appropriate term above.
The following links contain information regarding business and taxation considerations in determining the choice of entity for the business venture:
You may also be interested in:
Incorporating in Massachusetts. An overview of the processes and considerations involved in starting and operating a business corporation in the Commonwealth of Massachusetts.
Organizing a Limited Liability Company in Massachusetts. An overview of the processes and considerations involved in starting and operating a limited liability company in the Commonwealth of Massachusetts.
Dram Shop Laws. In addition to general litigation concerns, bars, restaurants and nightclubs can be found legally responsible for certain incidents occurring in connection with the operation of the establishment under what are known as “Dram Shop Laws.” These laws are applicable in the following circumstances:
- Intoxicated patron operates a motor vehicle and causes harm to a third party.
- Intoxicated patron causes injury to his or her own person.
- Intoxicated patron causes injury to a third party not resulting from a motor vehicle.
- Establishment does not take appropriate measures to ensure that alcohol is not served to persons under the legal drinking age.
- Owner or employee serves patrons who are noticeably intoxicated.
- Death as a result of the deceased being intoxicated.
State and Local Regulations
Zoning. Once suitable commercial space for a bar, restaurant or nightclub has been located, it must determined whether the selected location is properly zoned to be operated as such an establishment. The answer may be clear if an existing business (or “ongoing concern”) is being considered for purchase. However, if the space has not previously been operated as a bar, restaurant or nightclub, the zoning board of the city or town in which the property is located can provide the answer.
Doing Business As (DBA) If the bar, restaurant or nightclub is to be operated under a name other than that of the corporation or limited liability company that owns and operates it, Chapter 110, Section 5 of the Massachusetts General laws (MGL) requires that such name must be registered with the Clerk’s Office of the municipality in which the establishment is anticipated to operate.
Regulation of Sale of Alcoholic Beverages. The sale and service of alcohol in Massachusetts is governed by MGL Chapter 138 and regulated by the Massachusetts Alcoholic Beverages Control Commission (“ABCC”) and the local authorities of the municipality in which a particular venture is located.
MGL Chapter 138, Section 12 requires that enterprises wishing to serve alcohol to customers obtain a “Common Victualler License” from the municipality where the establishment is located. Further, a “Food and Health Permit” must be obtained from to the Board of Health of the town or city where the bar or nightclub is to be operated.
Licenses to serve alcoholic beverages, also known as “pouring licenses,” are divided into five types, all-alcoholic, wine only, malt only, or wine and malt. The various types of pouring licenses vary greatly in cost and availability. In fact, most licenses must be purchased from an existing licensee as the vast majority of municipalities have issued the maximum number of licenses permissible under the law.
Community Relations. Prior to formally beginning the process of applying for a license to sell alcoholic beverages, the ownership group is advised to introduce itself to potential neighbors and inform them of the anticipated purchase or opening of the bar, restaurant or nightclub. The ownership group should also be in contact with neighborhood community groups and schedule meetings to make presentations and answer community questions regarding the business plan to alleviate concerns regarding ownership’s business concept. If the members of the community are not in favor of the entrepreneurs’ ownership of the bar, restaurant or nightclub they will likely appear at both state and municipal licensing hearings and voice their dissatisfaction, which will likely jeopardize the license’s approval.
Obtaining the Liquor License. A license to sell alcoholic beverages is obtained by submitting an application to the municipality where the bar, restaurant or nightclub is to be located. This application is forwarded to the ABCC, which must also approve the application. If approved by the ABCC, the application is returned to the municipality for issuance of the license.
Entertainment Licenses. In addition to a license to serve alcohol, entertainment licenses must also be obtained from the municipality where the operation is to be located. Entertainment licenses allow an establishment to provide its customers with such amusements as television programming, jukeboxes, karaoke, live entertainment, lottery, dance, and the like. Ownership should familiarize itself with community committees and the types of licenses they tend to approve and deny. Once it has been determined that ownership does not anticipate substantial resistance, it should go through the community relations process described above to ensure that particular entertainment will be approved.
An entrepreneur may wish to open a venue for live music or a pool hall in a particular location, for example, but the community in which he hopes to operate may either have a town ordinance against such an establishment or community groups may consistently speak out against the opening of such a venue in their neighborhood. If this is the case, it is wise to select another locality for the operation or choose a different bar, restaurant or nightclub concept for the location selected.
Entrepreneurs endeavoring to become involved in the bar, restaurant or nightclub industry must prepare a detailed business plan to guide them through the process of opening and successfully operating their establishment. The business plan is a necessary and valuable tool for attracting investors and obtaining business loans. Click here to read more about preparing a business plan.
Start-up costs for opening a bar or nightclub vary greatly and depend in large part on what type of establishment an entrepreneur wishes to open and where the operation will be located (urban versus suburban setting). Generally, establishments can be broken down into five categories: neighborhood pub, sports bar, microbrewery, beer and/or wine bar, and nightclub.
Neighborhood Pub. Start-up costs for a neighborhood pub typically range from $250,000 to $500,000 depending on the size and design of the bar and the neighborhood in which one wishes to open.
Sports Bar. Start-up costs for sports bars tend to be significantly higher than that of the neighborhood pub as considerable amounts are spent on renovations, purchasing or leasing the latest technology (including point of sale systems, satellite television service, big screen televisions and sound and media systems), and leasing a greater amount of commercial space than is necessary for the typical neighborhood pub. Opening a sports bar can witness start-up costs ranging from $500,000 to in excess of $1,000,000.
Microbrewery. Opening a microbrewery can be an expensive endeavor as in addition to the start-up costs associated with neighborhood pubs and sports bars, brewing equipment must be purchased and the services of an experienced brewer may be required.
Beer and Wine Bar. This type of establishment is normally smaller in size than other types of operations; as such less money generally need be allocated to obtaining commercial space. Another cost savings factor is that the operation requires only a license to serve beer and wine which, in most circumstances, is much less expensive to acquire than other types of licenses to serve alcohol. For these reasons alone, it often requires much less start-up capital to open a beer and wine bar than any other type of establishment. Note that the inventory cost of procuring an extensive beer or fine wine selection may inflate the start-up cost of opening a bar geared toward attracting (i) persons with a taste for exotic malts and/or (ii) wine connoisseurs.
Nightclub. Nightclubs come in many varieties from the small cocktail lounge to dance mega-club or live music venue. Nightclub start-up costs can extend into the several millions of dollars depending in large part on the cost of obtaining and building out commercial space, the expense of acquiring the necessary media systems, payroll costs and pre-opening marketing expenditures.
Restaurants. Restaurants come in virtually infinite varieties from small ethnic concepts and delis to upscale steak houses and other large fine dining establishments. The start-up costs associated with opening a restaurant depend on concept, location, space required, necessity of acquiring a license to serve alcoholic beverages, cost of inventory and numerous other factors. Start-up costs can begin at $75,000 and extend into the several million dollar range.
In general, for all types of hospitality and entertainment establishments, the cost of inventory is an important factor to consider when budgeting start-up capital needs. Inventory costs will vary depending on the size of the operation, but often begin at between $15,000 to $20,000 for a smaller neighborhood pub and increase substantially according to the particular concept and capacity of each bar, restaurant or nightclub.
Most fledging entrepreneurs do not have the kind of capital necessary to open a bar, restaurant or nightclub readily available. As such, it is common for the aspiring owner to seek outside sources of funding to purchase and open the business. An entrepreneur is faced with two options when seeking capital to finance his vision: Debt (also know as Credit) or Equity Financing.
Debt (Credit) Financing. The business borrows money from a bank, other financial institution or private lender pursuant to the terms of a promissory note, security agreement and related documents. The amount borrowed must be repaid with interest over the course of a specified period of time or in the form of a “balloon” payment at the end of the term of the loan.
Debt financing can be a risky proposition for new business ventures as many lending institutions require the entrepreneur to personally guaranty the loan (which means it becomes the personal obligation of the owner rather than solely an obligation of the business). Lenders also often require the assets of the venture to be pledged as collateral for a loan.
One disadvantage to debt financing is that loan payments must be made each month regardless of how well the business is doing during that particular time period. If payments are not made, the venture will be in default under the terms of the loan. Default typically results in the lender seizing and potentially selling the assets of the business (and of the entrepreneur if a personal guaranty is in effect) in order to obtain satisfaction for the outstanding amount of the loan. In addition, each monthly payment of principal and interest is a fixed cost during the life of the loan increasing the business’ monthly breakeven point. The company generates profits for its owners only after reaching the breakeven point.
New businesses are typically subject to lending at higher interest rates than well-established businesses as they are viewed as a greater risk of failure and non-payment. However, lower interest rates are typically available in connection with the purchase of real estate as it possesses value separate and apart from the success or failure of the business venture.
Despite the downsides to debt financing described above, an entrepreneur may need to obtain loans to open his business if he can not obtain the necessary funding from equity investors. Additionally, ownership may want to use debt to finance the operation if it is extremely confident that the business will be a “home run,” as once the loans are paid off the entrepreneur alone will reap the benefits of the business’ success rather than being forced to share profits of with passive equity investors on an indefinite basis.
Equity Financing. The entrepreneur wishing to fund his venture through equity financing sells a percentage ownership interest in the enterprise (typically in the form of stock of a corporation or units of limited liability company interest) to investors in exchange for cash. Investors are often friends and family, also known as “angel investors”.
The entrepreneur and the investors share ownership of the operation and its profits and losses. Unlike a debt-financed business, the equity-financed venture may reinvest revenue generated from operations to expand or “grow” the business rather using those funds to make fixed monthly loan payments. Ownership also avoids making personal guaranties or granting a senior security interest in the assets of the business to equity investors. Passive equity owners reap the rewards of their investment only when there are excess monies available, pursuant to negotiated arrangements between the entrepreneur and the investors, and/or upon sale of the operation. Successful operations typically pay dividends and make distributions to investors on a quarterly or semi-annual basis.
One benefit of equity financing is the increased net worth of the business as there is no liability associated with large debt repayment obligations. This increased net worth permits the business to be more creditworthy – and therefore a better candidate for any debt financing that may be necessary to get the business on its feet.
Business owners often use a mix of equity and debt financing to start their business. For example, the entrepreneur will gather investors to fund the business portion of the endeavor and obtain a bank loan for a majority of the purchase price of the real estate where the business will be located. In another scenario, the entrepreneur may wish to sell only a certain percentage ownership in the venture but need monies in excess of the amount received from investors to get the business up and running – he may acquire this capital through a mix of debt and equity financing.
Purchasing a Pre-Existing Business
It is typically in the best interests of the business venture to purchase only the assets of a pre-existing bar, restaurant or nightclub. Purchase of the shares of the corporation owning the operation can be dangerous as the new owners also take on all known and unknown liabilities of the existing business. For this reason alone, the purchase of the pre-existing business should, in most circumstances, be conducted as an asset purchase by a new entity organized for the purpose of acquiring the operation. The asset purchase agreement must include provisions requiring the seller to pay all the debts of the business prior the closing of the purchase and sale.
It is to the advantage of the new owner to buy the shares of a corporation that owns the assets of the operation if it is the only method of obtaining the venture’s indispensable non-assignable contracts, permits, and licenses. The purchase of the shares of an existing corporation will not alleviate the new owner of the necessity of obtaining the permission of the state and municipal regulatory agencies to purchase the license to serve alcoholic beverages from the previous owner.
Click here to read more about acquiring an existing business venture.
Leasing. Leasing the real estate where the business will be located can be an attractive option for a new venture as it is less expensive in the short term. It also provides the new business owner with the ability to abandon the property after the lease term if the business is unsuccessful.
Many commercial leases are for terms of five years with tenant options for one or more five year extensions. If possible, a new business owner should negotiate an “option to purchase” into the lease – or at least a “right of first refusal” on any proposed sale of the property.
One downside to leasing is that the build-out which is typically funded by the business becomes the property of the owner of the real estate. Another downside to leasing is that rent payments generate revenue for the owner of the property and this is money lost to the entrepreneur. It may be in the best interest of the business to consider purchasing the leased real estate once the business has been profitably operating for a reasonable period of time.
Purchasing. One advantage to purchasing the real estate where the bar, restaurant or nightclub will be located is that the business will not be faced with the whims of the landlord such as increased rents in future lease terms, refusal to renew a lease, eviction, taking over the improved property for his own financial gain, and sale of the property to an unfriendly third party. The entrepreneur also benefits in a thriving real estate market as the growing equity in the real estate increases the overall value of the venture. Ownership of the real estate and the business should be held by two distinct legal entities so that the investment in the real estate is shielded in the event of a judgment against the business.
Additional ownership benefits include tax deductible interest payments on the mortgage, deductible depreciation of the property, rental income from any portion of the property not used by the business, freedom to renovate or improve the property for the financial benefit of the ownership.
The Federal government requires that all new businesses apply for an Employer Identification Number (EIN). An EIN may not be required if the business is owned by a single member limited liability company.
Income taxes are determined by estimating the business’ income and paying taxes based on such estimates on a quarterly basis. This procedure is necessary regardless of how the business is organized. If, at the end of the year, it is determined that the business underestimated its income underpayment penalties will be assessed.
New business owners should establish a relationship with a certified public accountant or experienced bookkeeper prior to opening for business.
Certain Employment Issues
Hiring. It is important for business owners to be aware of the legal requirements of the hiring process.
The employer is responsible for completing an I-9 Form (Employment Eligibility Verification) for each employee.
The employer must abide by the Equal Employment Opportunity Commission guidelines which provide that an employer, when advertising for a position, must focus only on the skills and experience necessary for such position. Title VII of the Civil Rights Act of 1964, the Americans with Disabilities Act (ADA), and the Age Discrimination in Employment Act (ADEA), prohibits discrimination in any facet of employment including the following: hiring; compensation; assignment; classification; advertisements for employment opportunities; recruitment; testing; training; apprenticeship programs; and other terms and conditions of employment.
Employers are permitted to access public arrest and conviction records but are prohibited from inquiring about, maintaining a record of, or basing any employment decision on arrests or prosecution not leading to conviction; a first conviction for drunkenness; simple assault; speeding; minor traffic violations; disturbance of the peace; misdemeanors where the date of conviction or the end of any period of incarceration was more than five years prior (provided there have been no subsequent convictions within those five years); any record of a court appearance which has been sealed under state law; and any juvenile record unless the juvenile was tried as an adult in Superior Court.
Certain Taxes and Payroll Obligations. At least four deductions are required to be made from an employee’s paycheck for tax purposes: Federal income, Social Security, Medicare, and state income tax. The employer must match the amount deducted from the employee’s paycheck for Social Security and Medicare.
The business is responsible for providing Form W-2 to each employee annually showing wages paid and taxes withheld for the year. Copies of the Form W-2 must be filed with the Social Security Administration and with the Massachusetts Department of Revenue. The employer must also file Form WR-1 (Employers Quarterly Report of Wages Paid) with the Massachusetts Department of Revenue to track quarterly wages paid to all employees.
Employers are further required to register with the Massachusetts Division of Unemployment Assistance (DUA) by submitting a Form 1110 (Employer Status Report). The DUA determines whether the employer must pay unemployment insurance contributions. New business owners should speak with an accountant and payroll service provider regarding taxation, payroll and other employer obligations.
Workers’ Compensation. MGL Chapter 152 requires all employers to carry workers’ compensation insurance for each employee. Workers’ compensation insurance need not be maintained for members of limited liability companies, partners of partnerships or sole proprietors, but the business owner may elect to carry coverage for such persons. Corporations are required to carry worker’s compensation insurance for shareholders of a corporation who are also employees; however in the case of a corporate officer who owns at least a 25 percent (25%) interest in the corporation, the corporation may elect not to provide coverage for such an individual. When an employee becomes incapable of working for five or more days due to an occupational injury, illness or death, the business must file with the Department of Industrial Accidents (DIA) and with its insurance carrier. Once the insurance carrier receives the notice it must either pay the claim or notify the employee and the DIA that it intends to contest the claim.
A business is not required by law to hold an employee’s position until he is able to work; however, it is required to give that employee preferential treatment in the rehiring process once he is able to work.
It is crucial that the bar, restaurant or nightclub be properly insured. The necessary types of insurance coverage include general liability, property (building, contents, tenant improvements and loss of income), liquor liability, assault and battery, and workers compensation/accident injury. Insurance costs vary depending on the applicant and the insurance company; however, costs can be in the range of and exceed $20,000 to $30,000 annually.
Ongoing Legal Obligations
Once the establishment is in operation, there are many legal obligations that must be adhered to including state fire codes, statutory and ABCC mandated rules and regulations regarding the service of alcoholic beverages, board of health requirements for the service of food and beverages, compliance with equity and debt financing arrangements, annual renewal of liquor and entertainment licenses, payment of Federal and state taxes, maintenance of insurance polices, annual payments to and filings with the Secretary of State, compliance with state corporate or limited liability company law, and so forth.
The information provided should not be taken as a comprehensive guide to the complex processes involved in the purchase and operation of a hospitality and entertainment venture.