So you’re going finally getting around to forming that startup, but what type of legal entity do you create? There are a plethora of options: LLC, S Corp, C Corp, DBA, LP, etc. . Let’s take a closer look at two of these choices: Minnesota LLC and the Delaware C Corporation.
Limited Liability Companies are a relatively new entity, starting in the 1970’s. Initially, they were created to merge the personal liability protections that the corporate veil provides with some of the tax advantages that partnerships offer. Because the LLC exists as a separate legal person, like that of a corporation, they can reduce or eliminate personal liability for debts (unless the member(s) have signed a personal guarantee). Small companies often make use of the LLC “flow through” taxation, which means the company’s income is only taxed as personal income and not taxed at both the corporate and individual levels. Additional benefits include: flexible profit distribution, no “minutes” recording and relatively easy filing requirements in Minnesota.
Not to mention – it’s now possible to have an LLC with only one owner.
You may have heard that Delaware is the state of choice for real businesses due to tax incentives and a favorable legal environment. There is some truth to this; according to the Delaware Division of Corporations, “More than 50% of all publicly-traded companies in the United States including 63% of the Fortune 500 have chosen Delaware as their legal home.” You may have also heard that Venture Capitalists prefer C-Corporations. Arguably true for a variety of tax and ownership reasons. Clearly, Delaware is the place to be for many established and publicly traded companies and has been for some time. This makes Delaware Corporations a safer bet for legal protections and if you intend to obtain funding from a VC in the short term, a Delaware based C-corporation may be a logical starting point. The good news is that a Minnesota LLC can transition into a Delaware C Corporation at any time provided it meets the requirements.
The Bootstrapper’s Dilemma?
Before you decide which path to pursue, you should determine how you expect to fund and grow your company. Some of the advantages offered by Delaware may not be useful to a small, early stage startup. The challenge for a small Minnesota business is that the courts are in Delaware – not in Minnesota – and thus you will need to register your “foreign” corporation with the Minnesota Secretary of State if you are doing business in Minnesota and pay to maintain a registered agent in Delaware. If you intend to bootstrap or grow your business organically, the additional cost and hassle of a Delaware corporation may not be worth it. Of course there are other choices to consider beyond the Minnesota LLC and Delaware C Corp.
Do some planning. The choice of legal entity selection for your business can be complicated and you should consult with an attorney AND an accountant when making a decision. In the end, it’s best to create some kind of legal business entity to protect your personal assets and maximize the tax advantages . Additionally, it always helps when forming any partnership to have the ownership interests and obligations solidified as clearly and early as possible.
Coming up Next…
How to file your own single member Minnesota LLC at cost.