Tax Advantages: A Guide to Delaware Incorporation

Incorporating in Delaware: pros and cons
If you’re like many just starting a business, you may be considering Delaware incorporation. A Delaware incorporation is a company that is registered to work in Delaware. These Delaware incorporations are, however, free to initiate business in any other state of the U.S. While even Nevada is a preferred state in which to incorporate, most tech start-ups favor Delaware for its favorable tax shelters and flexible corporate laws.

Key Takeaways for Eligibility for Delaware Incorporation

  1. There is no state income tax if your business doesn’t operate in Delaware.
  2. You get tax advantages on your Delaware incorporation based on shares, not income, potentially saving money.
  3. Benefit from Delaware’s absence of state sales tax.
  4. File for the franchise and potentially income and gross receipts tax.
  5. This information doesn’t replace professional guidance.
Here are four critical tax realities you need to know about if you have a Delaware incorporation:

Income Tax

As you may know, most US corporations file two separate returns for each taxable year: a federal tax return filed with the IRS and a state tax return filed with their state of incorporation or residence. Corporations formed in Delaware (DE) do not need to file a corporate tax return if they are not doing business in Delaware. They must file only when they generate income within the state of Delaware. Business owners can e-file Delaware corporate income tax with the federal tax return. It is due on the same date as the federal income tax return.

Franchise Tax

Businesses formed in Delaware must file an annual report and should pay annual franchise tax. Unlike other states where franchise tax is based on income, Delaware’s franchise tax is based on authorized shares. You can compute Delaware franchise tax in two ways:

Authorized Shares Method – compute franchise tax based on authorized shares

  • 5,000 shares or less (minimum tax) – $175.00
  • 5,001 – 10,000 shares – $250.00
  • For each additional 10,000 shares or portion thereof – add $85.00
To illustrate, let’s assume that ABC, Inc. was incorporated last June 01, 2018, with 10,000,000 authorized shares. The franchise tax is $250 for the first 10,000 shares and $85 for every 10,000 after. The total franchise tax that ABC will pay on March 1, 2019, will be $85,165. Assumed Par Value Capital Method – under this method, assumed par is computed by dividing the total assets by the issued shares. Authorized shares will then be multiplied with the assumed par to get the assumed par value capital.  Round up the assumed par value capital to the nearest million, divide it by a million then multiply the answer by $400.
Understanding Tax advantage for Delaware incorporation
Assuming the same scenario in the above example, let’s add that ABC, Inc. has 1,000,000 issued shares and total assets of $500,000. The assumed par value will be $.50, and the assumed par value capital will be $5,000,000. Divide 5M by 1M to get 5 and multiply this by $400. The total franchise tax will be $2,000. The minimum franchise tax will be $175 under the authorized shares method and $400 under the assumed par value capital method. For both methods, the maximum franchise tax cannot be more than $200,000. Franchise tax is due every March 1st. Failure to file on the due date results in an automatic penalty of $200 plus interest.

Sales Tax For Delaware Incorporation

Delaware is one of the states in the US with no sales tax. The tax collection from the corporate tax combined with the personal income tax allows Delaware to have no sales tax.

Gross Receipts Tax

The IRS imposes a gross receipts tax on the seller of goods and services. The tax is applied to their gross revenue regardless of the source. You cannot apply deductions when determining the gross receipts tax, but most businesses can apply exclusions depending on their business activity. Due dates for gross receipts tax are either monthly or quarterly depending on the business’s total gross receipts. Late filing of gross receipts tax return is subject to a penalty of 5% per month plus interest of .5% per month from the date the gross receipts tax due should have been paid.
Delaware Incorporation metrics

Steps To Computer Qualified Business Income Deductions

It can get pretty complicated for some businesses to check whether they qualify for QBI deductions or not. We got you covered with our step-by-step guidelines:
  • Find out whether your business falls under the category of designated service business. You can check the IRS official website to find out more about whether your business falls under the above-mentioned category.
  • Calculate your annual income, which is tax-eligible. If that income falls under $182,100, which is double for those whose marital status is married. Regardless of the type of business, if you fall under this category, then you are eligible for the 20% deduction of QBI.
  • Lastly, if you do fall under the designated service business category and your annual income is higher or equal to $232,100. In this scenario, your income exceeds the threshold to obtain a QBI deduction.
  • However, if your designated service business’s income does fall between $182,100 and $232,100 you can calculate your QBI reduction by the following step.
  • Take 20% of your annual designated business income and put in the deduction of half of your part of the W-2 wages financed by your business.

Delaware Incorporation: Make Sure You Get Professional Guidance

Delaware incorporation offers a compelling option for many businesses, particularly startups, thanks to its tax advantages, flexible corporate laws, and streamlined filing processes. However, it’s crucial to seek professional guidance to ensure your specific business needs are met and all legal and tax requirements are followed. Cleer can help you file Delaware Franchise Tax if you decide to go down that route. And, of course, do your research about the pros and cons of incorporating in other states. ‍
Author Bio
David McKeegan
David McKeegan, the founder of Cleer.Tax is both an MBA and Enrolled Agent. As an entrepreneur and small business owner himself, he really understands the pain points that company owners and founders have in regards to tax compliance and having clean financial statements. What really differentiates David is his ability to distill complicated tax matters into layman’s terms, making the advice actionable and accessible to all.
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