Avoiding Massive Delaware Franchise Tax Bills

By Charles Alovisetti

Jun 24, 2020

As we’ve previously discussed, forming a Delaware corporation for a cannabis startup may be a good idea. One issue that Delaware corporations need to be aware of is how that state calculates its franchise tax.

While many states have a flat franchise tax that is the same for all corporations, Delaware uses a relatively complicated system to determine its franchise taxes. The state will often default to the one that is more expensive, so it’s important to know the two methods to calculate Delaware franchise taxes – Authorized Shares Method (this is the state default) and Assumed Par Value Capital Method. The company is only required to pay the lesser of the two calculations.

To assist Delaware corporations, the state created a franchise tax calculator and a helpful page on how to calculate taxes. For your convenience, we’ve compiled information from the Delaware website below.

How Each Delaware Franchise Tax Method Works

Authorized Shares Method

Taxes are calculated based on the number of authorized shares as follows:

  • 5,000 shares or less (minimum tax) $175.00
  • 5,001 – 10,000 shares – $250.00
  • Each additional 10,000 shares or portion thereof add $85.00
  • Maximum annual tax is $200,000.00

For Example:

  • A corporation with 10,005 shares authorized pays $335.00 ($250.00 plus $85.00)
  • A corporation with 100,000 shares authorized pays $1,015.00 ($250.00 plus $765.00[$85.00 x 9])

Assumed Par Value Capital Method

To use this method, you must give figures for all issued shares (including treasury shares) and total gross assets in the spaces provided in your Annual Franchise Tax Report. Total Gross Assets shall be those “total assets” reported on the U.S. Form 1120, Schedule L (Federal Return) relative to the company’s fiscal year ending the calendar year of the report. The tax rate under this method is $400.00 per million or portion of a million. If the assumed par value capital is less than $1,000,000, the tax is calculated by dividing the assumed par value capital by $1,000,000 then multiplying that result by $400.00.

The example cited below is for a corporation having 1,000,000 shares of stock with a par value of $1.00 and 250,000 shares of stock with a par value of $5.00, gross assets of $1,000,000.00, and issued shares totaling 485,000:

  • Divide your total gross assets by your total issued shares carrying to 6 decimal places. The result is your “assumed par.”

    • Example: $1,000,000 assets, 485,000 issued shares = $2.061856 assumed par

  • Multiply the assumed par by the number of authorized shares having a par value of less than the assumed par.

    • Example: $2.061856 assumed par s 1,000,000 shares = $2,061,856

  • Multiply the number of authorized shares with a par value greater than the assumed par by their respective par value.

    • Example: 250,000 shares $5.00 par value = $1,250,000

  • Add the results of #2 and #3 above. The result is your assumed par value capital.

    • Example: $2,061,856 plus $1,250,000 = $3,311,856 assumed par value capital

  • Figure your tax by dividing the assumed par value capital, rounded up to the next million if it is over $1,000,000, by 1,000,000 and then multiply by $400.00.

    • Example: 4 x $400.00 = $1,600.00

  • The minimum tax for the Assumed Par Value Capital Method of calculation is $400.00.

The key takeaway here is that the Assumed Par Value Capital Method will typically result in low taxes until the company has substantial assets. This method is more complicated but is great for startups.

Once the company has substantial assets, the Par Value method can result in higher taxes. In that case, the simple solution is to consider authorizing a smaller number of shares. According to the latest calculator, 200,000 authorized shares will have a maximum tax of $1,865 – though the assumed par value capital method could get a lower tax amount. While there can be some satisfaction from owning millions of shares, bear in mind it could result in a large tax bill.

Finally, note that there is a separate rule for large, publicly-traded corporations, which have a fixed annual franchise tax of $250,000.

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