The HBS Blog offers insight on Delaware corporations and LLCs as well as information about entrepreneurship, start-ups and general business topics.
This means that both startups and small businesses will have increased access to investors and, as a result, increased access to capital. At the same time, House Bill 327 will allow more Delaware residents—regular people, not millionaires—to invest in Delaware startups and reap the benefits of early stage investors.
HB 327 is sponsored by Representative Bryon Short (D-Highland Woods) and Senator Brian Bushweller (D-Dover). Representative Short says, “We need to make sure our laws keep pace with technology so that our small businesses have access to new methods of raising much-needed capital. […]. This bill will take steps to help new companies by enabling Delaware residents to invest and participate in the success of homegrown Delaware startups.”
Previously, only certain types of investors were qualified to buy equity in startups—investors had to have either a one million dollar net worth or earn at least $200,000 per year. Thus, the term “angel investing” came about, as these wealthy investors were considered angels who funded startups with the right qualities.
As of mid-May, 2016, the new federal crowdfunding law allowed any Average Joe or Jane to invest in startup companies.
If you earn under $100,000 per year, you are allowed to invest up to $2,000 or 5 percent of your annual income—whichever number is greater. If you earn more than $100,000 per year, you are allowed to invest up to 10 percent of your income once every 12 months.
The startups themselves are allowed to raise up to one million dollars every 12 months.
The new Delaware law will focus specifically on local companies and local investors. Startups have to abide by the same million dollar fundraising limit; however, people can invest up to $5,000 at a time.
There are, of course, risks involved with selling pieces of your company to strangers, and some entrepreneurs will likely prefer the old-school model of angel investing, which often includes mentoring, brainstorming and networking.
Although the Delaware startups participating in equity crowdfunding will not be mandated to acquire a comprehensive valuation before accepting investors, there will be safeguards in place in order to protect investors. The Investor Protection Unit (part of Delaware’s Department of Justice) will be in charge of oversight.
Senator Bushweller states, “We must strike the right balance between protecting the public from fraudulent activity and making sure our small businesses can access investment capital, and this bill accomplishes that.”
Since Delaware is such a small state, the number of extremely wealthy people—there are no billionaires and very few multi-millionaires—who are willing to invest in entrepreneurs is quite low. This equity crowdfunding bill “removes some of the roadblocks and widens the pool of investors […] businesses can access,” says Vincent DeFelice, who works at the University of Delaware’s Horn Program in Entrepreneurship.
This law won’t go into effect until at least October of 2016; however, Delaware Governor Jack Markell is fully supportive of the bill, and signed the crowdfunding equity legislation into law on Monday, July 11, 2016. He is confident it will help keep the state competitive.
Markell says, “When combined with progress in strengthening our workforce, streamlining regulations and leading the nation in broadband availability, these efforts will ensure Delaware remains well-positioned to thrive in our new economy.”
The Delaware General Corporation Law is flexible with respect to the type and number of officers a Delaware corporation must appoint.
The applicable portion of the Delaware Corporation Law provides that a Delaware corporation shall have “such officers with such titles and duties as shall be stated in the bylaws or in a resolution of the Board of Directors which is not inconsistent with the bylaws.”
Therefore, a corporation can create, by board resolution or through its bylaws, titles and positions for corporate officers that are as mundane or creative as it would like.
A corporation may also grant these officers whatever powers—and authority over company operations—that it deems necessary or appropriate.
There are no required officer positions or titles that a Delaware corporation must create, as opposed to a set of required titles in other states. Most Delaware corporate founders deem it prudent to have an executive officer, such as a Chief Executive Officer or President, as well as a Secretary.
The Secretary fulfills the requirement in the law that dictates an officer must be assigned to record the proceedings of stockholder meetings and Board of Directors meeting.
One person may hold multiple officer positions or be the only officer, as is often the case in the early stages of a start-up’s existence.
In recent years, particularly among tech companies and millennial-owned start-ups, creative (and sometimes downright silly) corporate officer titles have been used, including:
This creativity in titling can add an interesting and fun aspect to a corporation, but in a start-up or relatively early-stage corporation, it is often recommended to create clearly-defined officer positions that will convey a distinct meaning to both customers and potential investors.
Therefore, while the title of “Tech Jedi” may be unique and alluring, “Chief Technology Officer” (or another, more recognizable title) may prove to be more sensible.
Customizing officer titles via unusual naming conventions can always be adopted once a corporation’s initial viability and business model have been proven, and growth is moving consistently forward.
Whatever titles are utilized, Delaware courts have held that corporate officers created at the board level, or through the bylaws, owe the corporation the same traditional fiduciary duties of care, loyalty and good faith as the members of the corporation’s Board of Directors.
Therefore, a corporate officer, particularly if he or she is not already on the Board of Directors, and therefore already subject to fiduciary duties, should become familiar with his or her fiduciary duties to the company and the resulting obligations.
The Delaware Corporate Law structure does not impose restrictions on foreign ownership or management.
It also does not require a Delaware LLC to maintain any physical presence in the state of Delaware other than a Registered Office and Registered Agent.
The only document required in order to create an LLC in Delaware is the Certificate of Formation. Unlike other states, Delaware requires very little information to be made public in order to form an LLC.
The Certificate of Formation, which is filed with the Delaware Secretary of State, has to contain only two articles: the name of the Delaware LLC and then the name and address of the Delaware LLC's Registered Office and Registered Agent in Delaware.
In Delaware, members and managers of an LLC are not required to be named on the Certificate of Formation.
Preparation, execution and filing of the Certificate of Formation must be handled by an authorized person or entity; an authorized person is an individual or entity that forms an LLC on behalf of the members by filing the necessary formation documents with the Secretary of State and returning them to the members.
Typically, the authorized person is the LLC’s Registered Agent or an attorney. Once this document is filed, the authorized person releases the LLC to the initial member(s).
The legal instrument that releases the LLC to the initial member(s) is called the Statement of the Authorized Person; this statement is prepared and signed by the Registered Agent, and it is not provided to the state of Delaware.
This information is not required to be filed publicly in Delaware.
Why would someone from outside the United States form a company in Delaware? There are numerous advantages to non-residents of the U.S.A. who form companies in Delaware.
When all of an LLC's income is Non-United States Source Income (as defined by the IRS), the members of the LLC who are not residents of the U.S.A. are typically not subject to U.S. federal income taxation.
U.S. non-residents can take advantage of Delaware’s freedom of contract and strong U.S. legal infrastructure without having to provide any member information on the public record; they can also operate their LLC anywhere in the world.
For help determining if your company earns U.S. source income, view the helpful Summary of Source Rules for Income of Nonresident Aliens provided by the IRS.
For more information or questions regarding U.S. company formations for non-residents, please feel free to call us at 1-800-345-CORP.
What Does Ownership In An LLC Mean?
The Delaware LLC is one of the most appealing, if not the most appealing, type of business entity for entrepreneurs worldwide. It is known for its unrivaled flexibility and ease of maintenance.
The state of Delaware is recognized around the world as the most corporate-friendly state in America; it is also known as The Incorporation Capital, due to its strong corporate law structure and the reputable Court of Chancery.
One of the key components of the Delaware LLC that makes it so popular is that the ownership, membership, management and operations of the LLC are all handled internally, via the LLC Operating Agreement.
This means you don’t have to report the financial details or membership information of your Delaware LLC, to the Delaware Secretary of State, such as:
Your Delaware LLC Operating Agreement is an internal document and does not need to be filed publicly—not with your Registered Agent nor with the Delaware Secretary of State.
Thus you are given the latitude to organize the membership, ownership and profits in your LLC however you see fit.
Traditionally, it has been common practice to utilize a percentage system in order to reflect the amount of ownership each member of a Delaware LLC controls.
Of course, if you own a single-member LLC and there will never be additional members, you—as the sole member—retain 100% ownership.
If there are two owners sharing 50/50 ownership, each member can hold 50%, and they will be equal partners.
However, if you have eight, 11 or 13 members, it can get more complicated. When you’re dealing with an odd number that doesn’t divide equally into 100, splitting and keeping track of membership rights can become tricky.
In addition, if you use a percentage, you only have a total of 100% to work with, and as you add or remove members, it can become increasingly difficult to shift the ownership around.
A way around this—and another option when dividing ownership in a Delaware LLC—is to issue units rather than percentages.
Utilizing units to quantify ownership may also offer further flexibility; this way, if you have seven members with equal interest, you can create 700 total ownership units, with each member holding 100 units.
This makes it easier to compute and keep track of the LLCs management.
You can even call your ownership units “shares” if you really want to, but don’t confuse these with actual stock; LLCs do not have stock, only corporations have stock.
The units held by members of your LLC can also be differentiated into different classes of ownership with different rights and privileges for the different classes if you specify and explain these classes in your Operating Agreement.
There is no other business entity that offers this level of structural flexibility, along with all the other advantages a Delaware LLC can offer business owners.
You can read more about how to create a Delaware LLC.
We are often asked, "If I incorporate a business that will be located in California and will be strictly online, with no principal office location, do I still have to register to do business in California?"
Anyone who has done business in California knows why someone may ask that question: taxes.
Before you even make your first sale, the California Franchise Tax board states that all corporations and LLCs are required to pay an $800 Franchise Tax if they:
Furthermore, business entities are required to pay the minimum Franchise Tax whether they are active, inactive or operating at a loss.
However, this still doesn't define "doing business in California." Through 2010, doing business in California was broadly defined as "actively engaging in any transaction for the purpose of financial gain or profit." It was a pretty vague definition, to say the least.
Since 2011, a business entity is considered to be doing business in California if it meets one of the following criteria:
Although the new definition was written to include the original definition of doing business, the added tests make it clear that if your company is a corporation or LLC generating income in California or maintaining tangible property in California, you are indeed doing business in California.
Therefore, you will indeed have to register a business and file for Foreign Qualification in California.