By: Deborah Sweeney, CEO of MyCorporation.com
New business owners often ask me that question and, unfortunately, it cannot be answered with a simple yes or no. It begins when business owners hear about lower taxes and fees in other states and start to wonder if they can take advantage of that business-friendly atmosphere, even though they don’t technically do business in that state. Forming an LLC or incorporating turns a business into its own legal entity, separate from you, and it can be formed anywhere within the United States. But it isn’t simply a matter of paying Nevada to incorporate within their state, and then continuing to do business in California while only paying Nevada taxes and fees. Before you decide to form a business entity in another state, consider the following three points.
Choosing another state isn’t a good option for some types of business
If you run a traditional brick-and-mortar business – something like a local bookstore, or a restaurant, or a computer repair company – forming a business in another state isn’t a very good idea. Locally-based businesses already have to contend with local regulations and fees, and forming a business in a state other than the one you do business in complicates matters further. Even if you are able to save a little bit of money on taxes, the extra headache associated with all of the regulations placed on foreign businesses by the state they are operating in may not be worth the hassle.
Sometimes, you cannot avoid the taxman
The state treasury is going to try anything it can to get the money it feels it deserves, and sometimes creating a business in a more tax-friendly state isn’t enough to help you avoid having to send in a chunk of your profits to the state you do business in. California, for example, has laws on the books that enforce its taxes and regulations over those of the state of formation if the majority of a business’s transactions take place in California. If the state you do business in has similar laws, and some do, you will still have to pay corporate income tax, even if your state of formation doesn’t collect one. This isn’t the case for every state, but most states do charge a franchise tax to any entity operating within their borders. If you run a multi-state business, this is just the cost of inter-state commerce, but if you are just trying to avoid having to pay a lot in taxes, unfortunately forming your business in another state may not be the answer to your problems.
There will be other fees and regulations
On top of the taxes that some states force foreign corporations and LLCs to pay, more often than not a foreign business entity will have to pay extra for permission to operate within the state they do business in. It is also more expensive to file annual reports and other renewals, and you will have to have a registered agent in both the state the business was formed in and the state you do business in. All of this can add up, so unless your company was going to do business in multiple states anyway, the cost of being a foreign corporation could be prohibitive.
There are some good reasons for choosing to incorporate or form an LLC in another state. Some states, like Nevada or Delaware, have regulations that are easier to comply with and lower tax rates. If you’re going to run a multi-state entity, choosing a business friendly state as your home base is understandable. But if you are a small business owner trying to save money, it doesn’t make much fiscal sense to go through the effort of forming a company in another state and then qualifying as a foreign corporation or LLC in your home state. In fact, it may be more expensive to go that route. Contrary to what some business analysts may have you believe, forming your business in another state is not a silver bullet for your tax woes. So talk to an accountant, a business attorney, or an experienced third party before forming a business outside of your home state to make sure that is a wise path to follow. It may not be.
Deborah Sweeney is the CEO of MyCorporation.com. MyCorporation is a leader in online legal filing services for entrepreneurs and businesses, providing start-up bundles that include corporation and LLC formation, registered agent, DBA, and trademark & copyright filing services. MyCorporation does all the work, making the business formation and maintenance quick and painless, so business owners can focus on what they do best. Follow her on Google+ and on Twitter @deborahsweeney and @mycorporation.