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When starting a business, many people opt to incorporate because this offers the business owners’ personal assets a measure of protection as well as makes it easier to raise capital. When incorporating, a question arises as to where to incorporate the business. Business owners often have the option to incorporate their business in either their home state or a state that is considered to have a more favorable climate for businesses. There are several things that a business owner should consider when trying to decide on the state in which the business owner wants to incorporate.
Considerations When Choosing a State in Which to Incorporate
The state in which a business is incorporated determines the laws and requirements under which the business operates. It is not a requirement that the company be incorporated in the state in which it is located. Therefore, a business owner may weight several factors when trying to decide upon the state in which to incorporate a business including: the initial filing fee, the annual filing fee, franchise taxes, state corporate income taxes, the legal climate for businesses, and the anonymity the state gives to shareholders or owners.
It is important to note that when a company is incorporated in one state and conducting business in another, it must register to do business in states other than the one in which it is incorporated.
State Corporate Income Taxes
One drawback of incorporating is the problem of double taxation; corporations are often taxed at both the corporate level and the owners are taxed on a personal level for corporate income. Whether a business must pay state corporate income taxes and the amount varies from state to state. If a business is incorporated in Delaware but does not do business within the state, it does not have to pay state corporate income taxes within that state; this is one reason that may business owners choose to incorporate in Delaware. Additionally, Nevada, another state in which it is often seen as favorable to incorporate, does not have a state corporate income tax. There are several other states that do not have state corporate income taxes. These states include South Dakota and Wyoming. In addition, a number of states to not have personal income taxes.
Anonymity of Shareholders / Owners
Oftentimes, the ability of shareholders to remain anonymous may help to attract shareholders to a company. Anonymity can provide a level of protection against frivolous lawsuits; the more information that someone is able garner from public records about the assets of another, the more vulnerable these assets become to being targeted. Many states require that the names of officers, directors, and even shareholders be listed in the corporation’s formation documents. Some states, however, help shareholder to maintain their privacy. In Wyoming, both the owners and corporate officers are able to maintain a sufficient level of anonymity due to disclosure requirements which are more favorable to maintaining privacy. Shareholders’ names do not need to be filed with the state of Wyoming; therefore, there is no public record of the fact that a person owns shares in a company that is incorporated in Wyoming. The disclosure requirements in Delaware and Florida are similarly in favor of privacy. Some states, such as California, allow shareholders and management to remain anonymous while requiring only that directors and resident agents be disclosed. In other states, nominee directors can be used to allow shareholders to remain anonymous. Thus, it is important for the owners of a company to familiarize themselves with the level of anonymity of shareholders / owners in the state in which they are considering incorporating to assess the ramifications of these requirements on their ability to attract investors.
Legal Climate for Business
One of the primary reasons that large corporations are incorporated in Delaware is that its legal system is considered to be friendlier to corporations than that of many other states. Delaware has a separate legal / court system for businesses called the Court of Chancery; this court is specifically dedicated to business law. Thus, in Delaware, judges experienced in business law decide on business disputes instead of juries. This tends to provide a level of comfort to business owners. Small businesses that have little likelihood of ending up in court, however, receive very little benefit from this favorable legal climate.
Franchise Taxes
Franchise taxes are taxes that businesses which are incorporated in or registered to operate in a certain state must pay to the state. The way in which the franchise tax is calculated can vary from state to state. Thus, it is important for a business owner to look up the franchise tax regulations for a business when choosing a state in which to incorporate the business. Two states, Nevada and Wyoming, do not charge businesses operating in or incorporated in the state a franchise tax.
Initial Incorporation Fee
In order to incorporate a company, the business owners must pay a filing fee in the state in which they choose to incorporate. This fee is paid to the secretary of state in the state of incorporation and can vary substantially from state to state. Some states have very low filing fees while others’ fees are substantially higher. This one-time fee can range from $50 to $455 depending on the state. If the initial incorporation filing fee is a concern, states such as Hawaii, Mississippi, Iowa, Arkansas, Oklahoma, and Colorado offer the lowest filing fees. The state of Connecticut, on the other hand, has the highest initial incorporation fee. It is important to note that because this is a one-time initial filing fee, the initial incorporation fee should not significantly affect the state in which one chooses to start a business unless the business owners have very little money with which to start the business.
Annual Filing Fee
In addition to an initial filing fee, most states require that the business owners pay an annual filing fee so that the company can maintain its corporation status. These fees vary from state to state and can range from nothing to over $300. Many people may be unaware that states such as New York and California both charge under $25 annually for businesses to maintain their incorporated status. The states of Delaware and Nevada, known to be friendly states in which to incorporate, charge $225 and $325 respectively.
All of these considerations may be taken into account when deciding upon the best state in which to incorporate your business. It is important to note that because a business has to pay taxes in the state in which it is operating even if it is incorporated in another state, it is often to your advantage to incorporate a small business in your home state.
