Delaware Corporate Law Update

Updates on Delaware Corporate Law by Evan O. Williford, Esq., Delaware Corporate Litigation Attorney.

Forming a Delaware Entity

So how does someone actually form a Delaware entity?  As it turns out, the actual tasks required to form one are not that expensive, nor do they take a lot of time.   But it is important to understand in advance why you want to form such an entity, as that will affect various choices you make along the way.  And, of course, it is always a good idea to get the advice of a qualified lawyer.

First, you must decide what kind of entity you want.  For example, do you want to form a corporation or a limited liability corporation (“LLC”)?  There are a number of other forms, though the ones specifically mentioned are among the most common.  We have discussed these common entity forms and their characteristics in a previous post – keep those in mind when selecting an entity form, do your own research and thinking, and seek qualified legal advice.

You will also need to choose a name for the entity.  That name will have to follow certain rules that you can find out from the Delaware Division of Corporations.  For example, obviously, it cannot be the same as an existing business.  There are other rules, such as that a corporation must including a word like “incorporated” or “corporation” (or an abbreviation like “inc.” or “corp.”).

If the entity will not have an office in Delaware, you will need to hire a “registered agent” and put their contact information on the forms you file with the Division of Corporations.  A registered agent is a person or company whose job it is to accept service of process if your entity is sued in a lawsuit in Delaware.  Hopefully that will never happen!  But the good news is that registered agents are relatively cheap.  A number of companies provide that service for a relatively low yearly price; information regarding them is available online.

It is a very good idea – and sometimes necessary – to put together certain organizational documents.  We have briefly discussed in a previous post what organizational documents are and how they create rules for that entity.  An attorney can help you do that, or you can look online for various resources, such as sample documents, to help you do that yourself.  If you are doing that yourself, be very careful to make sure that all the rules make sense for the entity you are forming.  Many lawsuits are caused or made worse when an entity has rules that apply not because they made sense for that entity, but because someone just adopted them without thinking about it!

Next, go to the Division of Corporations’ website and find out what they need from you to form your entity.  They will charge a filing fee, depending on what type of entity you want to form and whether you are in a hurry.  They will also tell you whether you need to file the entity’s organizational documents, and if so which ones.  When your paperwork is ready, mail or fax it to the Division of Corporations.

Now you have formed your own Delaware entity!  A Delaware entity has certain things it must do every so often in Delaware to maintain its good standing.  For example, corporations must file an annual report and pay a franchise tax; other entities similarly have to pay an annual tax.  Keep in mind there are a number of other things you may want or have to do that are outside the scope of this post, such as (1) getting an “Employer Identification Number” from the U.S. Internal Revenue Service; and (2) registering to do business in the State of Delaware, or another state.

Advertisements

Filed under: Basic Law of Corporations

Types of Delaware Business Entities and Limited Liability

The most well-known business entity, of course, is the corporation.  There are many others, however, such as limited liability companies (“LLCs”).  Each one has its own characteristics.  Which should a business owner choose?  That depends on their circumstances.

The corporation has a well-defined structure that most people dealing with it will be familiar with.  Its day-to-day business is run by certain key people called “officers.”  The officers themselves are hired, fired, and supervised by “directors,” who sit on what is known as a “board of directors.”  And the corporation itself is owned by “stockholders,” who can in turn elect the directors.

Another popular entity form is the LLC.  One of the big advantages of the LLC over a corporation is that it is possible to greatly customize how that LLC is structured, far beyond what is possible with a corporation.  With great freedom comes great responsibility, however.  Those forming an LLC should make sure that its structure, typically specified in detail in a document called an “LLC Agreement,” matches what is needed for the business.

Another consideration for those forming a business entity is taxation.  Some entities may elect with the U.S. Internal Revenue Service to pass income through to their owners, such as “S Corporations,” while others are taxed twice, once at the entity level and again at the owner level.  Those considering this issue should consult their accountants as to which tax treatment is best for them and what business forms qualify.

A key feature of many business forms is “limited liability.”  That means business owners are not generally liable for the business’s debts.  Thus their “liability” has been “limited”.  This was an important historical reason behind the rise in popularity of the corporation.  Investors wanted the ability to take risks by investing their money into a business without the possibility that if the business failed its creditors might go after them.

To form a Delaware business entity like a corporation or LLC, one needs to file the appropriate forms with the Delaware Division of Corporations, as will be discussed in another post.  But what happens if a business is run without creating a legal business entity?  The answer depends upon the state the business is operating in, but one possible result is the formation of a “sole proprietorship” or “general partnership”.  Such entities typically do not have limited liability.  That is one of many reasons it is important to properly form a business entity with a state like Delaware.

Filed under: Basic Law of Corporations

Governing Documents

While the state of Delaware creates rules that Delaware entities have to follow, all Delaware entities have some flexibility to create rules for themselves (though some, like LLCs, have more than others, like corporations).  They create those rules in “governing documents.”  What those are depends on what kind of entity it is.

Let’s start with the classic business entity, the corporation.  It typically has two core governing documents: (1) a “certificate of incorporation” (also called a “charter”); and (2) a “bylaws”.

The certificate of incorporation must be filed with the Delaware Division of Corporations (so it is “public” in the sense that anyone who wants to pay for a copy can get one).  This is a short document that must contain certain basic information or rules about the corporation, including certain details about the corporation’s stock and the name of the person forming the corporation.  It can also contain other rules, like eliminating directors’ liability to pay money for breaches of the fiduciary duty of care (we’ll talk about fiduciary duties in another post) or requiring the corporation to pay directors’ legal fees if they get sued.

The corporation can also have bylaws.  This is typically a longer document that contains more detailed rules, such as the procedures for its annual stockholder meetings and its board meetings, how stock is issued and transferred, and the duties of its officers.  If there is a conflict between the bylaws and the charter, the charter wins.

An LLC does not really have anything like a charter.  Rather, it is only required to file a “certificate of formation” with the Division of Corporations, which only needs to include its name and registered agent.  LLCs are sometimes preferred because of this additional privacy.

The primary governing document for an LLC is an “operating agreement” or “LLC agreement,” which basically serves as the LLC’s charter and bylaws all rolled up in one.  It is even more important because an LLC has much greater flexibility than a corporation to create its own rules.

There are many sample charters, bylaws, and LLC agreements on the internet.  But beware!  It can be very complicated to create business rules that work with existing law and to anticipate and provide for potential emergencies or disagreements.  If you are going to use a form, think very carefully about how you want the business to function and carefully edit the form accordingly.  But usually it is far better to hire a lawyer with business governance experience to draft the documents.  Once a lawsuit is filed it is too late to make rules that would have prevented it.  As Benjamin Franklin once said, “an Ounce of Prevention is worth a Pound of Cure.”

Filed under: Basic Law of Corporations

Pages

Disclaimer

Delaware Corporate Law Update solely reflect the views of Evan Williford of The Williford Firm, LLP. Its purpose is to provide general information concerning Delaware law; no representation is made about the accuracy of any information contained herein, and it may or may not be updated to reflect subsequent relevant events. This website is not intended to provide legal advice. It does not form any attorney-client relationship and it is not a substitute for one.