Photo by Kelly Sikkema on Unsplash
The intricacies of setting up a company
4 min read
Once I made my mind up for starting a company, there are so many paths and decisions to make for starting up. I feel like I am making decisions everyday one or the other that effect funding, hiring, corporate taxes, personal taxes etc and so much time gets sucked into doing research. I have previously incorporated a company nearly 20 years ago in India and it was not complex. But the process is pretty complicated in the US and there are so many companies offering help with bits and pieces of this complicated process. Here is a glimpse of few decisions:
LLC vs. Corporation
Broadly tech companies choose to incorporate as an LLC or a Corporation. Both the structures offer liability protection, but the taxation and company structure are pretty different. People choose one of the entity models for setting up the company depending on long term growth strategy, no. of founders, funding plans etc. LLCs are simpler and treated as pass-through for tax purposes. Corporations are complex, taxed as separate entity, requires proper corporate structure and must file annual reports. For businesses looking to raise investor money, they must incorporate as a Corporation although businesses can choose to convert from LLC to Corporation at any time.
State of incorporation
Unlike some countries where companies are incorporated at Federal (Central/Union) government level, companies are the US are incorporated specific to State. So when starting a company, I had to pick a state where I'd like my company to be incorporated. Usually people choose to select the state where they are based out of or select specific states such as Delaware for forming the company. Forming company in the home state is simpler, but Delaware has some advantages and widely preferred by investors.
Foreign Corporation registration
If the corporation is chosen to be registered out of state but the company is operating in a different state, the company must be registered as a foreign corporation in the state of operation. For example, if I form a company in Delaware but I operate out of California, I must register the company as a foreign corporation in California and fulfill the requirements every year.
Once the corporation is registered, 100% of the shares are held by the company. They are not automatically owned by the founders. The founders must purchase the stock from the company based on the fair value on the date of purchase and depending on the number of founders, the stock issuing strategy can get even more complex. Multiple founders usually have restricted stock with vesting schedule so founders who stay for long term vs founders who quit early are rewarded appropriately. If founders are be added later, if the business takes funding from investors or if stock needs to be issued to future employees, there is much more complexity.
Every business that's incorporated must have an Employer Identification Number (EIN) for banking, taxation purposes and other purposes. Getting an EIN is part of standard process and no decisions to be made. However if there are multiple founders and stock is issued as Restricted Stock with a vesting schedule, the taxes can get complex for the founders. Founders usually file Form 83b with IRS (Google for Form 83b for more details on this).
Once the company is formed and IRS issues EIN, bank accounts for the business can be opened. Pretty much all the expenses for the business must leverage this bank account.
Bookkeeping, corporate meetings and annual obligations
All the above paths lead to complex annual filing requirements, taxes, fees to be paid for federal government, state of incorporation of the company, states of operation for the business. There are strict bookkeeping requirements and corporate meeting requirements for day to day operations of the business. The total cost of all these annual obligations can run into thousands of dollars and requires help from corporate lawyers, accountants etc.
Thankfully there are many companies that offer help with various aspects of setting up and operating the company. Stripe Atlas is one of such services that help with setting up of Delaware LLC or Corporation. Similarly there are other companies that help with Legal, bookkeeping, taxation, stock issue etc. My experiences so far are with setting up the company and haven't gone through the annual process which I am sure will be complex.