Why Incorporate in Delaware? Pros and Cons for Startups

What state is home to over two-thirds of Fortune 500 companies, half of US publicly traded companies, and the beachside amusement park Funland? The answer, of course, is Delaware.

While Delaware’s corporate law is famously friendly to large public corporations, banks, and credit card companies, incorporating in Delaware can also be a good choice for small or early-stage businesses—particularly those that plan to seek investor funding.

As a result, most startups also choose to incorporate in Delaware. In 2021, over 90% of all initial public offerings in the US were registered in the state. Delaware established itself as a corporation-friendly American landmark in 1899 by creating lenient policies to draw first-time business owners into its borders.

The trend of incorporating in Delaware continues today. Once you understand the benefits, it’s easy to see why Delaware has become a top choice for entrepreneurs and startup founders from across the country.

What Are the Benefits of Incorporating in Delaware?

Incorporating your business in Delaware is fast, relatively affordable, and can confer a set of legal and tax advantages for all types of business entities. Services like Stripe Atlas can even set up a Delaware business for you in just a few days.

Some entity types can also gain additional advantages. LLCs and corporations can benefit from investor preference for businesses incorporated in the state, and C-corps and other corporations can take advantage of flexible corporate laws regarding stock distribution and transfer.

Here’s an overview of each major benefit of choosing Delaware to incorporate your business.

Liability protection

Delaware business law provides strong legal and liability protection for business owners, typically requiring evidence of corporate fraud to overturn protections. In fact, the Institute for Legal Reform’s State Liability Systems Ranking Study regularly finds that attorneys and executives with corporate litigation experience rank Delaware’s liability protection as the best offered by any state in the US.

Corporation court

The Delaware Court of Chancery is a non-jury court system that only handles legal disputes involving Delaware business entities. Decisions are made by judges who specialize in corporate law, making Chancery Court proceedings efficient and providing more predictability than those made by other courts in similar corporation cases.

Because so many companies are incorporated in Delaware, corporate attorneys outside of the state also tend to be familiar with Delaware general corporation law, which can further increase the efficiency of any legal proceedings.

Investor preference

Delaware corporation laws are more flexible than those in most other states. As an example, Delaware C-corps can continuously issue more shares of stock, issue multiple classes of stock, distribute stock options to employees, and more easily transfer shares of stock than corporations formed in other states can.

For these reasons, venture capitalists, investment bankers, and angel investors prefer Delaware corporations. Delaware incorporation is considered safer and, therefore, more attractive to those who want to watch their investments grow.

Efficiency

Delaware prides itself on offering a quick and simple business set-up, including same-day processing of business filings. Delaware also allows one person to hold multiple corporate roles such as officer, director, and shareholder.

Tax benefits

Delaware’s tax laws are very generous. Delaware also doesn’t have sales tax or investment income taxes, and companies incorporated in Delaware don’t need to pay state corporate income tax unless they also do business there. Delaware also recognizes S corporations as pass-through entities, meaning that the state doesn’t tax S-corps at the entity level.

The only tax that Delaware businesses always pay is an annual franchise tax. Franchise tax is assessed based on the total value of a company’s shares. Talk to your CPA to understand your tax obligation in Delaware.

Drawbacks to incorporating in Delaware

Although there are many benefits to incorporating in Delaware, it’s not always the best choice for all businesses. Here’s a rundown of the main drawbacks.

Cost

All businesses formed in Delaware owe franchise taxes to the state, regardless of whether or not they do business there. Unless you have a physical address in Delaware, you’ll also need to obtain a registered agent in the state to form your business there, which carries an additional cost. If you plan to do business in states other than Delaware, you’ll also need to foreign qualify in those states and pay associated fees. Depending on your business activities, it may be more cost-effective to form your business in your headquartered state or in a state where you plan to do business.

Reporting requirements

If you incorporate in Delaware, you’ll be required to file an annual report in Delaware, your headquartered state, and potentially also in other states where you conduct business. Duplicate reporting obligations require businesses to invest more time and money to stay compliant.

Minimal tax savings for some businesses

Incorporating in Delaware can confer massive tax advantages—or not. It depends on your business entity type, where you earn income, and whether or not your company is large enough to invest in the accounting and business strategy methods required to take advantage of the state’s corporate income tax advantages.

If you don’t do any business in Delaware or operate an entity not otherwise subject to corporate income tax (such as an LLC or an S-corp), Delaware’s corporate income tax policies won’t benefit you—and you’ll still owe franchise tax there.

May Not Be As Beneficial for Small Businesses

Small businesses don’t always need to be incorporated in the state of Delaware to enjoy favorable tax laws. Many states in America cater to the entrepreneurial spirit of business owners.

Delaware’s corporate laws and protections are primarily designed for larger or more ambitious corporations that intend to expand nationally or globally. If your corporate ambitions are more modest and you live in a state with incentives for corporations, there’s nothing wrong with incorporating in your home state.

How to decide if incorporating in Delaware is right for you

Whether or not you should incorporate in Delaware depends on your business structure, operations, size, and goals. Here are a few things to consider when making the choice.

Do you conduct business in Delaware? If you conduct business in Delaware, incorporating in the state can eliminate one of your potential foreign qualification needs. You’ll also benefit from the state’s lack of state corporate income tax.
What are your liability concerns? Incorporating in Delaware isn’t the only way to obtain liability protection—incorporating in any state can protect your personal assets, and liability insurance can offer protections for your business. That said, Delaware’s business-friendly policies (and business-only court) are generally considered to provide stronger liability shields to companies than other states can offer.
What is your entity type? Some of the benefits of incorporating in Delaware apply to all business types, such as liability protection, legal process in the Court of Chancery, and quick registration. Investor preference, flexible regulations around stock distribution, and the lack of state corporate income taxes are mainly beneficial to corporations.
Do you plan to seek investor funding? If you plan to seek investor funding, it’s a good idea to make your company as attractive to potential investors as possible. Investors generally favor Delaware corporations in investment decisions.
What are your revenue goals? Large corporations tend to have larger accounting budgets—if your annual revenue is in the billions, it can be cost-effective to invest in accounting strategies that allow you to declare some income earned in other states in Delaware. If your annual revenue isn’t yet in the billions—but you have ambitions to get there—you might incorporate in Delaware for the flexibility to adopt these strategies at a later date.

If your business is incorporated in Delaware, Mosey’s compliance platform can help you navigate legal, tax, HR, and insurance requirements across all states you do business in. Mosey supports corporations with large teams and provides guided steps for new founders to help navigate the business compliance needs after incorporation, including foreign qualification in your headquartered state, getting your founding team on payroll, and managing ongoing compliance.

How To Incorporate in Delaware

Delaware law is designed to make it as easy as possible for businesses to incorporate within the state. The business formation process is simple, but there are special considerations you may need to make if your primary physical presence is outside the state of Delaware.

Name Your Business

Choose a unique name for your business that abides by Delaware’s naming laws. Your limited liability company (LLC) must contain “LLC” within its name. Your name must also be checked with the Secretary of State to ensure it isn’t too similar to a name that’s already registered.

Assign Roles and Positions

LLCs must have managers, and corporations must have clearly established and defined members during business formation. Corporations must have at least one director, and LLCs must have at least one owner. The names of owners or directors do not need to be listed on the certificate of formation, and there is no residency requirement.

Appoint a Registered Agent

If you don’t live in Delaware or maintain a physical presence there, Delaware law requires you to appoint a registered agent or agent service to receive your mail and accept legal process service on your behalf. You must list your agent and their contact information on your official paperwork.

File Your Incorporation Paperwork

After you’ve completed your paperwork, you must file it with the Delaware Department of State and pay any necessary filing fees.

Review Tax, License, and Permit Requirements

Depending on the nature of your business, you may need a business license. All businesses must remain compliant with franchise tax and reporting requirements, which are different for corporations and LLCs.

Determine Your Need for Foreign Qualification

If your business is incorporated in Delaware but intends to conduct business outside of the state, you may need to complete the foreign qualification process for the states where you intend to operate.

The foreign qualification process is typically the same as the original incorporation process but on a smaller scale. States need verification that you are a registered and valid business entity somewhere in the country. You may need to obtain special certificates from the state of Delaware or share copies of your incorporation paperwork.

Some states may also impose additional requirements that weren’t necessary when you incorporated in Delaware. You may need to complete state-specific tax or reporting requirements or obtain additional licenses specified by the state or municipality where you intend to conduct business.

How Mosey Can Help

Mosey’s compliance management platform is designed to help businesses comply with state business compliance rules. We’ll monitor compliance requirements for your Delaware corporation and keep you on track.

If you’re incorporated in Delaware but out of state, Mosey can act as your Delaware registered agent. You need a registered agent service to accept service of process or official government correspondence. We’ll collect and forward your corporate mail so you can stay informed no matter where you are.

Schedule a demo with Mosey to learn how we can simplify the process of running your Delaware corporation.

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