If you are beginning to register your startup to the proper authorities, you might have chosen to use a C-Corp as a legal vehicle. If you are not so sure of which type of entity to choose, here’s another article that might come in handy: LLC or Corporation: which is best for my startup?
Corporations are independent legal entities, i.e. independent from their owners, that can operate and have legally binding relations in society as you and us. Their “independence” implies that legal and financial responsibility over their actions fall on the company rather than its business owners.
C-Corporations, as we learned in our previous post, get their name from being a type of company regulated on the IRS code under section C (as opposed to S-Corporations, regulated under section S).
These types of companies issue stocks (shares), which are ownership certificates, and these are held or owned by the “shareholders”. The shareholders also elect a board of directors, which govern the corporation.
Finally, C-Corps are one of the two most common types of legal entities in the US, along with LLCs, and both have strengths and weaknesses. Let’s get right into the C-Corp’s glass-half-empty side first, and then we can focus on it’s most important benefits.
More costly to manage
While they have similar initial costs of incorporation as an LLC, a C-Corp is more expensive to manage than other company structures. They require continued tax payments for maintaining a healthy and compliant company status and these should be met regularly to keep your startup investment-ready. The most variable costs are its Franchise Taxes, and they vary by state, with Delaware and Wyoming being the most popular (least expensive) locations. These will also increase as more shares are issued for fundraising and expansion.
Increased paperwork and restrictions
These entities are subject to some regulations at the federal, state, and municipal levels. That may entail more paperwork, as well as more time and money spent on maintaining tax, business, and financial records, establishing corporation bylaws, holding annual reports and meetings, and choosing a board of directors.
The main disadvantage of C-corps, being distinct tax entities than its owners, is that they are taxed at both the personal and corporate levels (sometimes called “double taxation”). Profits are distributed to shareholders after they have been taxed. But then, stockholders must record and pay taxes on the amount received on their personal income tax returns as well. Ron Swanson intensifies
There are ways in which, to some degree, double taxation can be avoided, for example with Tax Treaties. But in the long run if you expect a C-Corp to expand, this will become harder.
More attractive for US VCs in the fundraising process
C-Corps can obtain funds (or “capital”) by selling stock to an infinite number of owners. The idea is to persuade investors that your firm will be lucrative in the future, resulting in a growth in share value. This is especially useful if you have a fantastic company concept but lack the capital to get it off the ground.
You can also choose to issue more than one type of stock, like common shares and “preferred shares”. These preferred shareholders are privileged politically (with special privileges when voting in strategic aspects of the company governance) and economically (in respect to dividend payouts and liquidation preferences).
C-Corps are popular among entrepreneurs because they protect them. When you own a sole proprietorship or a partnership, your money and the money of the firm are the same. If your company goes bankrupt, so do you. If the company is sued, you will be sued as well. A C-Corporation, on the other hand, has its own legal and financial position. If something goes wrong with your company, the corporation’s money is at stake. This type of asset protection is known as “limited liability protection”, and is something that LLCs also share as an advantage.
Lower instability, higher life expectancy
Because C-Corps are different legal entities, they do not dissolve when an owner quits. Assume you and a business partner both own a company. Your business partner chooses to quit one day. They can sell their shares, and the firm will continue to operate. A different company entity, such as a Partnership, might dissolve under the same scenario. A C-Corp, on the other hand, may roll with the punches.
If you are interested in starting a business in the US and think a C-Corp might be a good option for you, get in touch with our legal team so we can tell you more about it!
Still not sure if C corporation registration is good for your startup? Compare it with other entities!