While the State of Delaware has numerous attractive aspects for entities that incorporate there (a flexible corporation statute, the well-respected Court of Chancery, a legislature that prioritizes the stability of Delaware’s business laws), Delaware’s corporate franchise tax can be an unexpected burden. On July 2, Delaware Governor John Carney signed a budget bill for Fiscal Year 2018 that includes a provision making Delaware’s corporate franchise tax even more burdensome.
Delaware’s franchise tax is generally imposed on all corporations incorporated in the state irrespective of whether they actually do business there. Moreover, as a tax that is calculated based on capital stock, it is imposed on corporations even if they are not generating income.
Delaware Raises the Cap
Previously, the franchise tax was capped at US$180,000 per year. The newly enacted law increases the maximum tax from US$180,000 to US$200,000 per year (and US$250,000 per year for Large Corporate Filers, defined as public companies with assets and annual revenues above certain thresholds).1 This increase should give small and middle-market corporations reason to consider recapitalizing, amending their certificate of incorporation to adjust their authorized number of shares, or converting to LLC or LP status. Partnerships and limited liability companies that are formed or registered in Delaware are subject to an annual tax of US$300 instead of the corporate franchise tax.
Why It Matters
Delaware franchise tax can add up considerably just by having the certificate of incorporation authorize many more shares than will be needed in the near future. The number of authorized shares directly impacts the Delaware corporate franchise tax amount, which can make it expensive for a Delaware corporation to authorize shares and not issue them.
To illustrate the extent to which Delaware’s annual franchise tax can add up using the Authorized Shares Method,2 the tax amount at various authorized share levels is below:
Authorizing 10,000 shares results in US$250 in annual corporate franchise tax.
Authorizing 100,000 shares results in US$1,015 tax (US$250 plus US$85 for each additional 10,000 shares or portion thereof).
Authorizing 1,000,000 shares results in US$8,665.
Authorizing 10,000,000 shares results in US$85,165.
Authorizing 25,000,000 shares results in: (i) for Large Corporate Filers (defined above), US$212,665 in annual tax; and (ii) for all other corporations, US$200,000 in annual tax (the maximum annual Delaware franchise tax for such corporations).
Authorizing 30,000,000 shares results in: (i) for Large Corporate Filers, US$250,000 in annual tax; and (ii) for all other corporations, US$200,000 in annual tax (in each case, the maximum annual Delaware franchise tax for such corporations).3
In summary, Delaware franchise tax liability can be significant, and it is advisable for Delaware corporations to avoid authorizing large numbers of shares unless consideration is given to the Delaware franchise tax cost of doing so. Delaware’s recent increase in the cap on the tax heightens the importance of that analysis.