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Home Is Where the Most Economically Beneficial Laws Are: Finding the Best Location to Incorporate Your Business

By Kate Imp

I.  Introduction

There are very few requirements for a business to be incorporated in a given state.  The business must usually have a registered agent in that state, but rarely are there requirements to construct an office or actually engage in commercial transactions. [1]  From the outset, it seems as though finding the best location to incorporate a business would be quite simple.  This prediction, however, could not be farther from the truth.  Finding the right place to "set up camp" is a long and crucial process; but if done properly, the initial research can lead to the creation of a business that uses state law to its advantage rather than demise.

II.  The Advantages of Incorporation

Before figuring out where to incorporate a new business, the first question to ask is whether to incorporate.  There are many tax benefits for both small businesses and large corporations, such as potential tax deferrals and deductions. [2]  Moreover, initial capital is often easier to acquire because a corporation can sell shares and raise equity capital, which generally does not have to be repaid and incurs no interest. [3]  The issuance of individual shares also limits liability by prohibiting creditors from seizing personal assets if the corporation incurs too much debt. [4]  The major downside of incorporation is that the entrepreneur inevitably reduces his or her percentage of ownership in the company; however, depending on the type of company being created, this factor may outweigh every single one of the advantages of incorporation.

III.  Issues to Consider when Selecting a State

When selecting a state for incorporation, there are a few general questions one might want to ask before making a decision.  For example, within the state being considered, what is the minimum number of people required to form a corporation?  What is the minimum capital requirement?  What kinds of fees and taxes are required?  The state of Delaware taxes non-Delaware resident shareholders of S-corporations (corporations that do not pay income taxes) on their distributive share of S-corporation income based on the percentage of that income derived from Delaware sources. [5]  If a Delaware corporation has no Delaware-source income, these taxes are not an issue. [6]  This may seem like a lot of legal jargon, but proactive research into state law is crucial to the economic success of a new, start-up business.

Proactively researching a state's requirements for incorporation is rarely going to be sufficient, even for those entrepreneurs already holding a juris doctorate degree.  It is worthwhile to find a knowledgeable corporate attorney because the requirements of each state are not always that obvious.  For example, it is important to know whether the corporation is allowed to keep its books and records outside the state, whether it is required to have a corporate bank account in that state, and whether the corporation is allowed to have its principle place of business outside the state. [7]  A corporate attorney most likely has the expertise to not only think of these questions, but to answer them.

IV.  The Benefits of Incorporating in Delaware

Rumor has it that Delaware is the best location for incorporating a business.  So what does Delaware have that other states do not?  For starters, Delaware's body of law is more business-oriented than any other location in the country. [8]  Its advanced business court system is equipped to handle complex legal litigation, making it the state of choice for large corporations, foreign corporations, and many fast-growing companies. [9]

For those entrepreneurs with very little knowledge of the law, Delaware offers a home for new business that is supported by much more than prestige.  Because the body of law tends to protect owners and shareholders more effectively than most other states' laws, predatory consumers (and lawyers) tend to be more hesitant in creating controversy with up-and-coming corporations. [10]

For those entrepreneurs who simply need "an entity and a bank account to purchase or hold property, accept payments as a contractor, or receive investment money," Delaware offers a headquarters for all stages of business. [11]  This is convenient for those entrepreneurs with an eye on expanding a company across many different states. [12]  However, Delaware can also prove just as convenient for those who want to form a company but then "leave it on a shelf" for future business operations. [13]

V.  The Benefits of Incorporating in Your Home State

For the majority of small businesses, incorporation in one's home state is often the easiest and least expensive option.  This is because most states have laws that require entrepreneurs to re-register a Delaware company in the state where it is actually doing business, and unfortunately, re-registration involves more than a few hours of paper work. [14]  Not only will the new business be subject to all the same taxes and fees as an in-state company, but there is also the added expense of registering as a "foreign corporation" in the home state and any annual fees in both states. [15]

VI. Conclusion

Though it is important to research state law and get advice from legal professionals about incorporation, sometimes the best advice comes from fellow entrepreneurs who have come before you.  If you cannot answer the question -- "What is the state's court system's reputation of fairness in business practices?" -- then you probably have not yet found a "home" for your business.  All businesses are different, so the key to success is finding the state with the most economically beneficial laws for your specific entrepreneurial interests.

Endnotes

[1] Startups Made Simple, In Which State should I Incorporate or Form an LLC?, MyNewCompany.com, http://www.mynewcompany.com/whichstate.htm. 

[2] Susant Ward, Should You Incorporate Your Small Business?, About.com, http://sbinfocanada.about.com/cs/startup/a/incorporatadv_2.htm.

[3] Id.

[4] Id.

[5] Business Law, Where to Incorporate: Selecting a State of Incorporation, QuickMBA.com, http://www.quickmba.com/law/corporation/state/.

[6] Id.

[7] Id.

[8] McGraw Hill-Companies, Where to Incorporate Your Business, BusinessWeek, April 21, 2006, http://www.businessweek.com/smallbiz/tips/archives/2006/04/where_to_incorp.html.

[9] Startups Made Simple, In Which State should I Incorporate or Form an LLC?, MyNewCompany.com, http://www.mynewcompany.com/whichstate.htm.

[10] Id.

[11] Id.

[12] Id.

[13] Id.

[14] Id.

[15] Id.

Full post as published by The Journal of the Business Law Society on April 24, 2008 (boomark / email).