The Pros and Cons of Incorporating in Delaware
The decision to incorporate in Delaware is not one-size-fits-all. Make sure you do your homework.
When you are ready to incorporate your business, you'll need to select a state of incorporation. You may have noticed that many companies are incorporated in Delaware -- far more than are physically headquartered there.
In fact, more than half of all publicly traded and Fortune 500 companies have incorporated in Delaware. You may be wondering why.
The answer is that for big companies, Delaware offers numerous advantages. However, the average small business may never notice any of these benefits; in fact, incorporating in Delaware can add cost and complexity.
In other words, the decision to incorporate in Delaware isn't the same for every business. Following are the key benefits and drawbacks associated with incorporating in Delaware to help you better understand what's right for your company.
The benefits of incorporating in Delaware
Incorporating in Delaware holds many advantages; here are the key ones:
- The Delaware court system is well established and highly respected. Delaware's Court of Chancery specializes in corporate issues and uses judges instead of juries. This means that if your business is involved in litigation, you'll get a judge with a lot of expertise in complex corporate law matters. In addition, corporate attorneys are usually familiar with Delaware business law. Therefore, your company attorney is likely to already be familiar with Delaware law, as opposed to laws in a different state.
- Delaware offers a lot of flexibility for structuring your corporation. Delaware's corporate statutes are very flexible in terms of how you can structure your corporation and board members. For example, shareholders, directors and officers don't need to be residents of Delaware. Delaware allows just one person to be the only director, shareholder and officer of a corporation. In other states, you may need a minimum of three people to hold the officer and director positions.
- Delaware offers greater privacy. Delaware corporations don't need to disclose officer or director names on the formation documents. This gives you a layer of privacy (if needed).
- Investors prefer Delaware corporations. VC investors and investment banks typically prefer Delaware corporations above all other states and business structures. If you are seriously considering VC funding or going public, you'd be smart to incorporate in Delaware now, instead of having to convert your company when that's demanded by an investment banker or venture capitalist.
- Delaware offers some tax advantages. While states like Wyoming and Nevada are rising in popularity due to their lack of state corporate income tax, Delaware has some business-friendly tax law. Businesses that are formed in Delaware but don't conduct business there do not need to pay state corporate income tax (though there is a franchise tax). Also, stock shares owned by people outside Delaware aren't subject to Delaware taxes.
The drawbacks of incorporating in Delaware
From the list above, you may be impressed with how seemingly advantageous Delaware is for corporations. And certainly, if yours is a large corporation with thousands of shareholders, you will see benefits from incorporating in Delaware. However, these same benefits may not mean much for a smaller business.
In fact, the drawbacks may tip the scale against incorporating in Delaware.
The main drawbacks occur when you incorporate in Delaware but aren't actually headquartered or doing business there. Let's say you're physically located in California, but choose to incorporate in Delaware. In this case, you'll need to pay the annual franchise tax in both states. You will also need to follow the reporting requirements for both states.
If the benefits of incorporating in Delaware don't mean much to your company, then there's no reason to tack on the added expense and administrative time for incorporating in Delaware if you're not doing business there.
In short, the decision to incorporate in Delaware is not one-size-fits-all. You'll need to think about what's right for your business.
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