Delaware C-Corp vs LLC for Startups: Which One to Form Before You Raise

For most small businesses, an LLC is the right first step. It costs less, takes less paperwork and is taxed once. Founders who plan to raise money from investors are the exception. For them, the choice of structure decides who can invest, how profit is taxed and what has to be filed every year, and changing it later costs time and money. This guide helps you decide before you form anything.

It is general information, not legal or tax advice. If you are about to sign a term sheet, have a startup lawyer look at your actual structure.

Why investors ask for a Delaware C-corporation

Venture funds usually invest through partnerships whose own investors include tax-exempt organisations and people from other countries. An LLC passes its profit and loss through to its owners, and that can create tax filings and a tax cost for those investors that a corporation does not. Many funds simply say they only invest in Delaware C-corps. Their lawyers also know Delaware company law well, and its courts have a long record on disputes between founders and investors, which makes outcomes more predictable.

If you are not planning outside investment, none of this applies to you. A company that earns revenue and keeps the profit rarely needs to be a C-corp.

Side by side

	LLC	Delaware C-corp
Income tax	Passes through to the owners	The company pays federal tax at a flat 21%
Paying out profit	Owners are taxed on profit as it arises	Dividends are taxed again in the owners' hands
Ownership	Flexible membership interests	Shares, with classes and an option pool
Raising venture money	Often needs conversion first	The standard structure
Delaware yearly cost	A flat annual tax, due 1 June	Franchise tax and an annual report, due 1 March
Admin	Light	Board, bylaws, stock ledger, more filings
Employees' equity	Awkward	Standard stock options

The franchise tax number that scares founders

Delaware's default way to calculate franchise tax uses the number of authorised shares. For a typical startup with ten million authorised shares that method produces a very large bill. It is a quirk of the calculation, not what you really owe. Delaware also allows the assumed par value capital method, and with it a small company usually pays a few hundred dollars. Use that method on the annual report, and check the current minimums and filing fee on the Delaware Division of Corporations website, since they change. When the notice arrives with a big number, do not pay it and do not ignore it. Recalculate it.

A typical starting structure

• Authorised shares. Many startups authorise ten million common shares. That leaves room for founders and an option pool.
• Issued to the founders. A portion of the authorised shares, usually most of the first issue, split by agreement.
• A very low par value. A tiny par value, such as a fraction of a cent, keeps the cost of buying founder shares trivial and the franchise tax calculation low.
• An option pool. Reserved shares for future employees. Investors often ask for one to be created before they invest.

What to do at the start

1. Issue founder shares properly. Put them on a vesting schedule. Four years with a one-year cliff is common, and investors will ask for it anyway, so it is easier to start with it.
2. Ask about the 83(b) election. For US taxpayers, a missed filing can be costly, and the deadline is 30 days from the share grant. If you are a non-resident founder, ask an adviser whether it applies to you and what the filing involves.
3. Keep the company's money separate and record what each founder put in, as a share purchase or a loan.
4. Do not rush a SAFE or a convertible note. Both change how much of the company you keep after the round. Model the numbers first.
5. Assign the IP to the company. Anything a founder built before incorporation, such as code or a brand, should be transferred in writing. Investors check this.

Foreign founders: what changes

• A US corporation that is at least 25% foreign-owned reports certain transactions with its foreign owners to the IRS each year, on Form 5472, filed with its corporate tax return. The penalty for missing it is large.
• An S-corporation election is not available, because shareholders have to be US citizens or residents.
• Paying yourself a salary involves US payroll and visa questions. Many non-resident founders take no pay at first and keep costs low.
• Where you live affects how dividends and a sale of your shares are taxed at home. That is a question for a local tax adviser.
• A US company that operates mainly in another state may also have to register there as a foreign company and pay that state's fees.

If you start with an LLC and convert later

It is possible, and many companies do it. Delaware allows a statutory conversion, and the company then needs bylaws, share issuance and a board. The part to take advice on is tax: how the conversion is treated depends on the company's value, its liabilities and who owns it. If investor money is realistic within a year, forming the C-corp from the start usually costs less than converting during a fundraise.

When to choose which

• Choose an LLC if you will run a profitable service or e-commerce business, expect to keep the profit, and have no plan to take venture money.
• Choose a Delaware C-corp if you intend to raise from venture investors or give equity to a team and want the structure they expect.
• Not sure? An LLC is not a mistake. You can convert later, but plan for the cost and the paperwork.

Common questions

Can a non-US resident own a Delaware C-corp?

Yes. There is no citizenship or residency requirement for shareholders or directors of a Delaware corporation.

Do I need to live in Delaware?

No, but the company needs a registered agent with a Delaware address. A corporation with real operations elsewhere may have to register in that state as well.

Is a C-corp double taxed?

The company pays corporate tax on profit, and shareholders pay tax again on dividends. A startup that reinvests and pays no dividends often does not feel that second layer for years.

Which is cheaper to set up?

An LLC, in both fees and paperwork. The difference grows if you need a lawyer for the share structure.

For the LLC route, see LLC formation, and our comparison of Delaware and Wyoming. If a corporation fits better, talk to us before you file, and bring a lawyer in for the share structure.