Delaware vs. Colorado Corporation: What Makes Sense for My Business?
If you’re in the startup world, you may be at least vaguely aware that most hugely successful startups are Delaware corporations.
Indeed, there are many smart people who say this is the only right answer to the question, “What type of entity should I form for my startup?”
I don’t think this is true, however. There are many different types of companies. And different structures make sense for different companies with different plans.
There are many reasons to start your corporation in Delaware. But for most companies, forming in Delaware only makes sense if you have a real chance of obtaining VC funding. So, if catching the fancy of Peter Thiel and Brad Feld is important to your growth and development, then yes, no debate, go to Delaware. But if it is not, you will save money (approximately $600 a year, to be exact) by starting your business in Colorado (assuming you are a Colorado company). And it may be in your best interest to be an S corporation or an LLC, depending on how you plan to fund your growth.
Here’s a quick list of reasons why someone might want to incorporate in Delaware.
- Forming in Delaware C Corporation is a form of “signaling.” It’s a way of saying to sophisticated investors, we know the type of entity you prefer to invest in, and we are already that type of entity. See, we’re ready for investment!!!
- Many VCs won’t consider any other entity.
- Delaware corporate law is the most predictable of any state. The state has a “Court of Chancery” that handles all disputes related to business outside of tort and criminal law. This has made them the go-to hub for corporations. With over 200 years of precedent on every major issue, judges handle most issues quickly and with greater alacrity than you might find elsewhere.
- Most lawyers who are well versed in corporate law know Delaware law, which eliminates needless research costs.
- No juries = lower volatility risk in judgment awards.
- Delaware has no sales tax, income tax, or property tax for non-residents.
- Delaware managers may remain anonymous if they so choose.
- Delaware has considerable contract law protections and pro-business precedent in case law.
But there are disadvantages, as well.
- Most critically, it’s more expensive to register and maintain a business in Delaware than in your home state.
- In Colorado, it costs $50 to register a corporation with the Secretary of State with a $10 annual fee every year thereafter.
- In Delaware, all filing fees are much more expensive, you are required to pay an annual franchise tax, you must hire a registered agent in the state, and then you are required to file as a foreign entity in Colorado.
- All told, depending on your business, you’re probably going to end up paying 10x as much in the first year to incorporate in Delaware, and a much, much higher multiple every year to be in Delaware thereafter.
- The odds of having a shareholder suit in the first few years as a fledgling corporation are infinitesimal, so the benefits of being a Delaware corporation aren’t really for your benefit, at least in the first few years. They’re for your investors.
My formula is this: If you’re someone who thinks that you have a realistic chance of obtaining VC money or sophisticated investor funding in the first 18-24 months, register as a Delaware C Corp right away. Or, if you’re involved in complex corporate transactions where corporate liability is an issue, you should also incorporate in Delaware.
If those scenarios seem unlikely to you, then go ahead and register in your home state as a corporation (if you’re in a business friendly state like Colorado). Get your capitalization structure set up right from the beginning. It’s ok to keep things relatively affordable at the outset and not to put pressure on yourself to take VC money before you’re ready.
Then, if and when you get serious VC interest down the line, you can always convert to a Delaware C Corporation later. With the enactment of Delaware Code Section 265 in the middle of last decade, conversion to Delaware has never been easier. And, since you’ll be doing it at a time when you know you have serious venture interest, you won’t have to worry about whether you’re dedicating your precious startup resources to the wrong place.