Yep – VCs still prefer to deal with companies incorporated as a Delaware C-Corp.
Well, the state has a well-developed corporate law and judges/former corporate lawyers in the Court of Chancery who understand business disputes really well. So investors really like that and have pretty much made that the standard state to incorporate in if you’re starting a high-growth tech startup. Also, Delaware does offer the greatest flexibility in terms of structuring boards of directors, stock issuance and preference, and voting rights. It also provides the broadest privacy protections. For instance, it doesn’t require director or officer names to be revealed on formation documents.
And what about LLC’s?
LLCs are much less formal and more flexible business-structure-wise than C-Corps, avoid a “double-tax” (just taxed once on a personal income tax level), and protect entrepreneurs from personal liability. BUT, for accounting/tax purposes LLC’s are taxed as partnerships (making the operating very long and complex); LLCs are tough/expensive to convert to C-Corps and angel and VC’s rarely deal with them; the capital structure isn’t flexible like it is in a C-Corp.
The Advantages of a C Corp
- Shields entrepreneurs from personal liability
- VCs don’t generally invest in “pass-through entities” such as LLCs or S-Corps for tax purposes
- Cheaper to set up than an LLC in states that require publication fees for LLC’s.
- Flexible stock structure/easy to issue different classes of stock, also easy for investors to use different financial documents (like convertible notes, SAFES, warrants, subordinated debt)
- Best structure to raise equity capital through crowdfunding sites like Kickstarter
- Maximize medical coverage tax deductions
- Easier to get foreign investors (S corporations, by definition, cannot have any nonresident alien shareholders.)
- Minimize employment taxes.- shareholder-employees of S and C corporations pay FICA (Social Security and Medicare) taxes only on wages they receive.
The Disadvantages of a C corp
- Can potentially be expensive (if the corporation is doing business in a state different from the state of incorporation)
- A lot of corporate formalities/record keeping requirements, compared to an LLC, which is contract based.
- Double-taxation (corporate and personal income tax), since a C-Corp isn’t a “pass-through entity”, like an LLC or a S-Corp.
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