Every Delaware corporation pays an annual franchise tax for the privilege of being a Delaware corporation, whether or not it has revenue, operations in Delaware or profits. It is due with the annual report every March 1 for the previous calendar year, and it can be as much as $200,000. The minimum depends on which of two calculation methods is used, and confusion between them is the most common way startups overpay.
The authorized shares method
The default calculation looks only at how many shares the company is authorized to issue.
| Authorized shares | Tax |
|---|---|
| 5,000 or fewer | $175 |
| 5,001 to 10,000 | $250 |
| Each additional 10,000 shares or part of 10,000 | Add $85 |
A startup with 10,000,000 authorized shares owes $250 plus $85 for each of the remaining 999 blocks of 10,000, or $85,165. Delaware's annual notice and its online calculator often show that number, which is why founders panic in February.
The assumed par value capital method
The second method uses the company's assets and issued shares, and for nearly every early-stage startup it comes out far lower. You need two figures as of December 31: total gross assets, which are the total assets on the company's balance sheet as reported on its federal return, and the number of shares issued.
Divide total gross assets by the number of issued shares; the result is the assumed par. Multiply the assumed par by the number of authorized shares to get the assumed par value capital (if the assumed par is lower than the stock's stated par value, use the stated par value for those shares instead). The tax is $400 for each $1,000,000 of assumed par value capital or part of $1,000,000, with a minimum of $400.
Take a company with 10,000,000 authorized shares at $0.00001 par, 8,889,000 shares issued and $500,000 in gross assets at year end. The assumed par is $500,000 divided by 8,889,000, about $0.05625 a share. Multiplied by 10,000,000 authorized shares, that gives $562,500 of assumed par value capital, which is less than $1,000,000, so the tax is $400. With the $50 filing fee the company owes $450, not $85,215.
If the same company raised money and ended the year with $3,000,000 in gross assets, the assumed par would be about $0.3375, the assumed par value capital $3,375,000, and the tax four units of $400, or $1,600.
Delaware charges whichever method produces the lower tax, but only if you give it the figures. The annual report asks for issued shares and gross assets, and if you leave them out, the state calculates the tax by authorized shares.
What moves the number
Raising money increases gross assets and so raises the tax under the second method, modestly. Authorizing more shares raises it under both methods, because both multiply by authorized shares, so authorizing far more than you need costs money every year. Issuing more shares lowers the assumed par and with it the tax, other things equal. And once the annual tax reaches $5,000, Delaware requires installments during the year: 40 percent by June 1, 20 percent by September 1, 20 percent by December 1 and the rest with the annual report.
If you don't pay
Late payment costs a $200 penalty plus 1.5 percent a month in interest on the unpaid tax, and the company loses its good standing, which banks, investors and acquirers all check. Left unpaid long enough, the charter can be declared void. A void company can be revived by filing a certificate of revival and paying everything owed, but revival is expensive, and actions taken while the company was void can be questioned.
Founders sometimes reason that a dead company will never pay its back taxes, so why pay now. The answer is that the company is not dead yet, and one out of good standing has a harder time raising money, opening accounts and closing deals. A company that really is shutting down should dissolve formally, as the last chapter explains.
Delaware's franchise tax is separate from income tax. Delaware does not tax the income of corporations that do no business there, but the company still owes federal income tax and, wherever it operates, that state's income, franchise or minimum taxes, such as California's $800 minimum franchise tax.