Startup Ltd.: Tax Planning and Initial Incorporation Location

Abstract

Do startup firms consider taxes when they decide where to organize? This Article analyzes the incorporation decisions of relatively new, US-based private business enterprises with global ambitions. Such startup firms generally organize as US corporations. This Article theorizes this dominant structure and its exceptions, drawing from prior literature and illustrating with informal interview results. It identifies explanatory factors including limited tax benefits of non-US incorporation, legal benefits of US incorporation, startups’ liquidity and other resource constraints, and investor preferences.
Part II explains the different treatment of US- and non-US-parented multinational corporations (MNCs) under US federal income tax law. Some non-US-parented MNC structures have tax advantages compared to US-parented MNC structures. This prompts the hypothesis that US-based startup corporations may incorporate outside the United States, for example in a tax haven jurisdiction, if the non-tax costs of a non-US incorporation decision are sufficiently low.
Part III reports that available empirical work shows few examples of startup corporations headquartered in the United States and incorporated in tax haven jurisdictions. Prior work and informal interviews reported here support the conclusion that venture-backed Silicon Valley startups generally organize in the United States, form corporations rather than partnerships or LLCs, and prefer the state of Delaware as an incorporation jurisdiction. Available examples, drawn in large part from initial public offering (IPO) evidence, corroborate the conclusion that Delaware incorporation is the norm. The evidence also reveals exceptions to the general rule of US incorporation concentrated in particular industries, such as insurance and marine transportation. Part III also identifies several additional examples of US-based, non-US-incorporated firms, scattered among different industries.
Part IV explores several possible reasons for the dominant structure of US incorporation for startup firms. One reason is the limited relative tax advantages of non-US incorporation. For example, US-parented MNCs can often obtain low tax rates on non-US income, sometimes access offshore cash without onerous US tax results, and erode their US taxable income base to some extent. Another reason is that a US-parented structure can provide corporate governance and other non-tax legal advantages