Miss This Report, and Your Company Can Be "Canceled"
And no, you don't owe $85,165 in taxes
TL;DR: Make sure you file your Delaware Annual Franchise Tax report by March 1 of every year. Miss it twice, and your company can be “canceled”.
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Two stories to get us going.
To whet your appetite, here are two stories about the Delaware Annual Franchise Tax Report – one that happened with my friend, and the other which happens with me a few times every year around February.
The corporation didn’t exist… 😖
The round is set to close that Friday. Signatures are being collected. Wiring instructions are being shared.
Investors have asked for a Delaware Certificate of Good Standing – one of the conditions to close the round, which is common practice.
Their lawyer applies for it online. His heart sinks when he sees the result:
Delaware had “canceled” the corporation.
Turns out the company hadn’t filed their Delaware Annual Franchise Tax Report for two years straight.
My friend, the company’s lawyer, kicks into action. A stressful 24 hours later – during which he gets an urgent Board consent signed, the Certificate for Revival of Charter filed with Delaware, expedited processing fees paid… and goes through the awkward situation of informing investors’ counsel on what’s going on – the corporation is brought back to life.
Luckily, by a hair, the deal closes on time.
How am I going to pay this?! 😲
I get a panicked call from my client.
She’s on the Delaware Annual Franchise Tax Report filing website, and she’s seeing a scary number on the screen. She owes Delaware a lot of money.
Except that… she doesn’t.
“Stepan, I’m on the Delaware website, and I’m seeing this insanely high number.”
“You don’t owe that,” I jump in the moment she ends her sentence. Getting this kind of call every year in February had become a fact of life.
I hear an audible sigh of relief. “Really?”
“Yeah. Think of it as a practical joke that Delaware plays on founders each year.”
“Well, that’s mean.”
“Let me explain.”
What is this “Delaware Annual Franchise Tax Report”? 🤔
Delaware corporations have to file an annual report each year by March 1, which helps you calculate and pay your Delaware franchise tax.
There are two methods of calculating the franchise tax. Let’s check them out.
Authorized Shares Method
This method simply looks at the number of shares you have authorized at the end of the reporting year and calculates your franchise tax based on that. The more authorized shares you have, the higher the tax.
The thing is:
This is the method that the Delaware website applies by default, and
Delaware tech corporations normally have 10,000,000 shares of authorized stock.
This is exactly why you see an insanely high number for your Franchise Tax the moment you log in. It automatically shows you the tax you owe if you go with the authorized shares method.
But why would you, if you can apply the…
Assumed Par Value Capital Method
This method looks at the number of issued shares you have and your gross assets at the end of the reporting year. I won’t go into detail because the math involved is borderline calculus, but suffice it to say that if you do have a lot of shares issued and don’t have a lot of assets, you’ll like qualify to pay the minimum tax:
$400.
Much better than $85,165, no?
How to pay less tax (legally) 🏦
Let’s check out the steps you should follow to apply the “assumed par value capital method” (jeez, I can never remember this name by heart and have to copy-paste it each time) and pay less tax.
Here’s a screenshot to help you follow the steps:
1. Enter your number of issued shares
Enter the number of issued shares on the last day of the reporting year (so, for the report you’ll be filing in 2024, we’re looking at December 31, 2023).
The number of issued shares is the total number of shares that you have sold or awarded that are:
currently in the hands of the recipients, or
have been repurchased by or forfeited to the company and have not been “canceled” or “retired” yet.
When does this second point come up, you ask? For example, it’s relevant where you have granted shares to an employee and they had unvested stock when they left. That unvested stock comes back to the company and is still considered “issued” unless you have a Board resolution that explicitly “cancels” or “retires” that stock.
2. Enter your gross assets
Your “gross assets" is “the ‘total assets’ reported to the United States on U.S. Form 1120”. Normally, this is the cash balance on your account on the end of the reporting year (so, yes, on December 31, 2023). That said, don’t take my word for it, and talk with your CPA.
3. Enter the asset date
Normally, this would be December 31, 2023.
4. Click “Recalculate Tax”
The moment of truth is here. After you’ve inserted the data in fields 1-3, click “Recalculate Tax”… and hold your breath.
The page will start loading.
It will seem like forever.
It will then refresh and…
Just like that, nearly a hundred thousand dollars of potentially owed taxes will dissipate into thin air!
But… I only have 1,000 shares authorized.
Well, my friend, if that is you, you can ignore all of the above. With just 1,000 shares authorized, you’ll owe only $175 in Delaware taxes.
10,000 shares? $250.
The authorized shares method will be much more beneficial for you in this case (and this is the figure you’ll see when you log in to the Delaware website – because it applies this method by default).
Why have 10,000,000 authorized shares then?
I’m glad you asked. Equity is the currency in which Delaware high-growth corporations attract talent (employees, advisors) and capital (investors). Dividing the company’s ownership into 10,000,000 small pieces gives you loads of flexibility in dealing in that currency.
It’s not uncommon for a hire to be granted a fraction of one percent – say, 0.25% or 0.15%. It’s also not uncommon for an investor’s stake to be a funky number, like 322,541 shares. To accommodate these cases, working with small pieces of ownership helps a lot. In fact, if you do want to go the venture route, you’ll probably need to do a stock split down the line; make sure you work with a competent attorney on this!
Beam me up! 🛸
Ready to file your Delaware Annual Franchise Tax Report? Great! Here are a few additional tips:
Your file number
You need your Delaware file number for this, which you can find here by searching for your company’s name. You can also find that number on the front page of your filed Certificate of Incorporation.
The filing webpage
When you have this info, visit this webpage to get started. It’s going to ask you for your “7 digit Business Entity File Number” – that’s the file number. Enter that, answer the captcha at the bottom, and you’re ready to roll.
Deadline is March 1 🚨
Remember, you have until March 1 to make this happen.
You can still file after the deadline, but you’re going to be smacked with a penalty of $200 plus 1.5% monthly interest.
If you miss filing for two consecutive years – your company is going to be canceled.
So, why delay? File today! (I know, I know, that sounded like an infomercial…)
And if you have any questions, feel free to reach out!
Startup Ecosystem Member Highlight
Over the past years, I’ve had the opportunity to meet with amazing people who are super passionate about startups. I’d love to introduce them to you through this newsletter, as they can be helpful to you as you start, grow, and scale your startup.
And since this post is about tax, the highlighted member has to be a CPA!
Meet Levon Galstyan
Levon is the Founder and Managing Partner of Cruncher Accounting, PC and a California CPA and Accredited Estate Planner®. Think tax is boring? Check out their website.
I really admire his practice because of its transparency (his website publicly lists their prices), intensive use of technology, and his commitment to educating the public on tax issues. In fact, I first found out about Levon through his LinkedIn posts, which I read in full each time it appears on my feed.
Long story short – we now trust him with Corpora’s accounting and tax needs.
Speaking of which, if you’re looking for a CPA for tax season, Levon is your guy. You can connect with him on LinkedIn or schedule a call with him here.
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Until next time!
Stepan
A bit about me: I’m a former corporate lawyer with 10+ years of experience helping 100s of companies navigate the legal journey, including early-stage startups and unicorns. I quit my private practice to start Corpora and help founders raise money faster by automating the legal backend. Let’s connect on LinkedIn.