Why Do Companies Incorporate in Delaware?

The State of Delaware offers companies lenient tax benefits and liability protection. Also, companies that incorporate in Delaware do not have to do business in the state.

By Brad Nakase, Attorney

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It is very common for businesses to decide to incorporate in Delaware. And for good reason. There are many reasons why the state is so favorable to corporations. But while there are certainly advantages to forming a corporation in Delaware, there are also disadvantages.

Without question, there are benefits to incorporating in Delaware. That said, it is mainly big corporations with a lot of financial resources that can take advantage of those benefits. Small businesses should not automatically assume that it is a plus to incorporate in Delaware. The costs of incorporating and maintain a corporation in Delaware quickly add up, especially for small businesses or startups. It is therefore important for a company to weigh the advantages and disadvantages, as well as consider the state of their company prior to incorporating in Delaware.

In this article, our business attorney in Los Angeles discusses why companies incorporate in Delaware as follows:

Advantages of Delaware Incorporation

If a business owner is interested in forming a corporation in Delaware, he or she would certainly not be alone in wanting to do so. The Delaware Division of Corporations reports that nearly 70% of Fortune 500 companies incorporate in Delaware. An additional 1.5 million companies have registered as corporations in the state. So, what makes Delaware so special?

The state of Delaware has made it its mission to be a corporation-friendly state. The state offers companies plenty of advantages in order to make incorporating there seem like the best idea for a business owner. These advantages include the following.

  • Tax Benefits. One advantage to incorporating in Delaware is that there are tax benefits. For one, corporations that are registered in Delaware do not have to pay income tax. This is true even if the corporation does not do business in the state. Shareholders also do not need to pay tax on shares, even if they do not reside in Delaware. Because of these tax benefits, Delaware is often called a “tax haven.”

  • Corporation Court. In Delaware, there is a Court of Chancery, which is a court that only handles corporation cases. The judges assigned to cases are experienced in corporate law. This means that the court’s decisions are generally more predictable than in other states.

  • Quick Processing. As a state, Delaware tries to be very friendly to corporations. This means that filings are processed very quickly, even in the same day.

  • Privacy Protection. If a company incorporates in Delaware, it does not need to reveal the names of its directors and officers to the state. This means that a company can maintain anonymity if it so wishes.

  • Residency Not Required. In Delaware, a company’s officers, directors, and shareholders do not need to be residents of Delaware to incorporate.

  • Corporate Structure. In Delaware, it is possible for a corporation to have a basic, slimmed-down structure. Under Delaware law, a corporation can have a single person have the roles of officer, director, and shareholder. This is attractive to small businesses who might want to incorporate without all the fuss of having a lot of people involved in the company.

  • Investors. If a company is interested in angel investors or venture capital, Delaware is the best place to incorporate. In general, most investors prefer that companies incorporate in Delaware.

Disadvantages of Delaware Incorporation

While it is clear that there are advantages to incorporating in Delaware, it is important to note that there are also disadvantages. One thing to keep in mind is that in nearly all cases it is financially better to incorporate in one’s home state.

  • No Tax Savings for Small Businesses. While it is true that Delaware does not tax companies that incorporate in the state, even if they do not do business there, one does not completely avoid taxation. This is because one’s home state will tax the business. So, by incorporating in Delaware, a business owner is simply avoiding paying Delaware taxes. He or she will still need to pay their own state’s taxes.

  • Expensive Filing. In Delaware, the filing fees are much higher than in other states, creating another financial disadvantage. This is especially important for small businesses to note.

  • Franchise Tax. While a corporation that registers in Delaware will not have to pay income tax in the state, it will still have to pay the Delaware franchise tax based on the shares’ value. For small businesses, this amount is usually not much. However, the amount will increase as the number of shares increases, or as the share value goes up. So, as the business grows, so do the financial burdens. A business will also need to pay a franchise tax in its home state.

  • Meeting Home State’s Requirements. While a business is free to incorporate in Delaware, it must still meet its home state’s filing and licensing requirements for doing business there. Similarly, it is necessary to file annual reports in both states. This means a business owner is doing twice the work and paying twice the expense.

  • Registered Agent. When a company files to incorporate, it must name a registered agent. This a person who agrees to receive legal documents and correspondence on the company’s behalf. When a company files for incorporation in Delaware, it must give the name of a registered agent within Delaware. What happens if a business owner does not know anyone in Delaware? He or she will have to hire a registered agent in the state. If one hires a registered agent, it is just another cost for the business.

  • Travel Burdens. If a corporation faces a legal dispute or lawsuit, the owner will have to travel to Delaware for the court case. This is because cases involving the company must be heard in the Delaware corporate court. It is also necessary that the corporation hire a Delaware attorney to handle the case and represent the company. The corporation is not allowed to hire a lawyer from its home state.

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