You might be struggling with what form your new company should take. Should you choose an LLC? A C Corp? Start with the former and transition to the latter? Consult your handy Magic 8-ball and hope for the best?
While we can’t say which of these options is best for you—except the Magic 8-ball one, don’t do that—we can address some of the myths about LLCs and C Corps, and hopefully help you make a more informed decision. Here are four of the myths we hear the most often, and the reality behind them.
Myth 1: LLCs cost WAY less to start
We hear a lot from companies that have incorporated as an LLC in their home state, instead of as a Delaware C Corp, in the interest of saving money. Indeed, there are some states where this is the less-expensive route. However, this is far from universal; in Delaware, for example, it costs $90 to incorporate an LLC, and just $89 to form a C Corp. In addition, if you eventually need to convert to a C Corp, those costs need to be factored into your comparison. In the long run, it just doesn’t make sense to base your corporate form decision on the state filing fee.
Myth 2: Changing from an LLC to C Corp is prohibitively difficult
Even if your company starts life as an LLC, it’s possible to convert to a Delaware C Corp. The process looks a little bit like this: You’ll pay about four legal hours for your lawyer to convert your LLC units that have been given to shareholders to C Corp shares granted to shareholders and send paperwork off to the state of DE to convert your corporate form. While the exact cost of this process will depend on your particular circumstances, you might expect it to take about four hours of legal work at roughly $500 per hour.
Myth 3: Choosing an LLC will free you from having to have annual meetings
There’s a misconception that Delaware C Corps come with onerous shareholder and board meeting requirements, and that the state will force you to hold meetings even when nobody involved wants to be there. However, there’s a provision in the Delaware code regarding shareholder meetings that allows latitude (see for yourself here: you can replace your annual shareholder meeting with a simple consent to elect/re-elect your directors, and regardless “[a] failure to hold the annual meeting at the designated time or to elect a sufficient number of directors to conduct the business of the corporation shall not affect otherwise valid corporate acts”.). The rules for when to meet as a board are common-sense rules. No one wants you to have the burden of calling board meetings all the time. However, your board will likely be small and easy to gather when you start your company (it might be just you), and it is usually manageable to get your board’s permission before you take major actions (like equity or financing options), so no unnecessary C Corp board meetings required!
Myth 4: Starting a Delaware C Corp means your company gets taxed twice
One of the elements that comes up when discussing C Corps is the “double tax.” This leads many people to wrongfully assume that starting a Delaware C Corp will mean that your company will be taxed twice. Let’s break down what “double tax”
What a “double tax” for C corps means is that the government is getting twice the taxes from the same amount of money, because the company pays taxes on their income and then the shareholder (the individual or entity who owns shares) also pays taxes if that same income is paid to them as dividends.
For example, let’s say that Acme makes $100,000 in profits per year, and pays taxes on this income. Acme decides it’s been such a successful year that they’ll pay dividends on their shares (this is not often an issue with startups, as they don’t usually offer dividends). Anita owns shares in Acme. Anita makes $100 in dividends. Anita pays taxes on this dividend along with all of her other taxes when tax time rolls around. In this way, the same income is taxed twice: first taxes are paid by the company, then Anita (and hundreds of others shareholders in a similar situation) pays taxes on this same income after she receives it as dividends.
Fidelity does not provide legal or tax advice. The information herein is general in nature and should not be considered legal or tax advice. Consult an attorney or tax professional regarding your specific situation.