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Why does Delaware say my startup owes tens of thousands in franchise tax?

DelawareFranchise taxTax

Because the state's notice is calculated under the authorized shares method, which charges $85 for every 10,000 authorized shares, and startups authorize a lot of shares. A company with 10,000,000 authorized shares appears on the notice at $85,165. That is not what you owe. Delaware lets every corporation pay the lower of two methods, and the assumed par value capital method brings a typical startup down to the $400 minimum. The state does not run the second method for you because it needs two figures it does not have, your total gross assets and your issued share count. You type them in when you file.

What to do

Open the annual report filing, enter total gross assets and the number of issued shares, and the tax is recalculated on the screen. Total gross assets means the total assets line of the company's federal return, Form 1120 Schedule L, for the fiscal year that ended in the prior calendar year. A company that has not filed its first return yet uses the figure that return will carry, which is its year-end balance sheet.

Why it comes out so much lower

The second method divides assets by issued shares to produce an assumed par, then multiplies that by all authorized shares. For the company above, with 8,000,000 shares issued and $50,000 in assets, the assumed par is $0.00625, the assumed par value capital is $62,500, and anything up to a million dollars is taxed at the minimum, $400. The gap is more than $84,000, and it is entirely which method is used.

Two ways the number stays high

Assets grow. A company that has raised $10,000,000 and issued 8,000,000 shares, ignoring the preferred shares for simplicity, has an assumed par of $1.25, and 10,000,000 authorized shares at that par is $12,500,000 of capital, rounded up to 13 million and taxed at $5,200. The other trap is issuing very few shares: a company that authorized 10,000,000 and issued 1,000 has an enormous assumed par, and the second method stops helping.

Arabella's Delaware C corp questionnaire sets the authorized share count, and it starts you at the 10,000,000 that venture-backed startups customarily use.

Written by the lawyers who built Arabella. This is legal information, not legal advice for your situation, and reading it does not make us your lawyers. For a real dispute or a high-stakes decision, talk to a licensed attorney. More questions.