State of Incorporation
A few years ago, Makeba Boulware and her husband started, B-WISE, a small health and wellness brokerage as a side business to supplement their full-time jobs. As the company began to take off, Boulware quit her regular job working in the mayor of Detroit's communications office. About that time, she began to consider whether B-WISE should make it official and incorporate. So far, the company had rolled along just fine and Boulware wasn't sure she wanted to go to the trouble of all the paperwork and decisions necessary to give it a different legal status.
Making the decision to incorporate is never easy, but as the business grows, incorporation becomes an essential step in protecting the company, its assets, and, not least, the owners. Incorporation limits a business owner's liability by creating a legal barrier between the owner's personal assets and those owned by their companies. In other words, if someone sues the company, the owner's personal assets would be protected.
As part of the decision to incorporate, operators like Boulware face an important question: Where to incorporate? Businesses are not required to incorporate in the states in which they operate, so many owners choose to move their headquarters to states that offer particular benefits. Delaware and Nevada are popular among those looking to take advantage of these states' reduced income taxes, franchise fees and annual reporting requirements.
Making the right decision depends a lot on the specifics of your business, says Karen Nathan, coauthor of the book, Incorporate! An Easy Step-By-Step Plan for Entrepreneurs. Nathan advises companie consult with a corporate lawyer or accountant to better understand the implications of incorporating, since "there is no state that fits every company's needs."
Another option to consider when making your decision is to use an intermediary like Business Filings Inc., an online service that provides incorporation resources for small business owners like Boulware, who used the service to incorporate her business. When deciding on which state to incorporate in, says Nathan, who is also director of business development at Business Filings, small businesses should take the following three first steps:
Consider where your business is located. Most states don't have a residence requirement for owners, but they do insist that any company incorporating within their borders establish a permanent registered agent in the state. That means an extra step and a potential complication for many small businesses. So many owners starting out like Boulware end up keeping things simple by incorporating at home.
Analyze the costs of incorporating in the state where you operate versus becoming an out-of-state operator. If Boulware filed for incorporation in Delaware, she would have had to file a certificate of authority in order to apply to do business in the state of Michigan as an out-of-state operator known as a "foreign corporation." The potential disadvantage of the foreign corporation approach, says Nathan, is that the company would have to pay taxes and filing fees in both states, which potentially negates any other savings the company could realize by moving out of state.
Understand the corporate laws and tax structure of the state you are thinking of incorporating in. Although his organization doesn't recommend one state over another, says Giovanni Coratolo, director of small business policy at the U.S. Chamber of Commerce, choosing the right one to place your company headquarters in can be a complex decision based on many factors like taxes and housing and labor costs. That's one of the principal advantages of incorporating in Delaware and Nevada, he says, because they have created business-friendly climates to entice companies to incorporate there. Coratolo suggests contacting the secretary of state in the location you are considering to find out how the state's specific laws apply to your business.
So why Delaware or Nevada?
Until recently, Delaware held a monopoly on incorporations, says Nathan, though Nevada has been catching up of late. Because both states offer low incorporation costs, generous giveaways on income and franchise taxes, and even less stringent annual reporting requirements than other states, it has been a popular choice. Typically, the potential savings of incorporating in Delaware or Nevada are only realized by larger corporations, however, says Nathan, especially companies who need to please groups of shareholders.
In the end, Boulware decided to keep things simple and incorporated B-WISE in her home state of Michigan. Says Boulware, "it just didn't make sense for my business to go anywhere else."
Darren Dahl is a contributing editor at Inc. magazine, which he has written for since 2004. He also works as a collaborative writer and editor and has partnered with several high-profile authors. Dahl lives in Asheville, North Carolina.