"Now that we have selected to form a Limited Liability Company - where do we form it?"
We can't tell you how many times we have been asked this question by our clients, a question that we will (honestly) sidestep since it does involve giving legal advice tailored to a client. But, to the interest of many startups and businesses seeking a a bit of legal knowledge it helps to initially look at what others are actually doing when forming a LLC.
The Lemming Approach or the Power of Crowds?Founders need to evaluate whether they can gain a competitive advantage by their legal business form or their place of incorporation. To do this they need to know the marketplace for corporate charters.
Businesses have options when creating their identity. They select the corporate law of their choice by incorporating in one of the fifty states. Since states earn money from businesses they have economic incentives to attract businesses to incorporate within their state, and use their laws. For instance, franchise taxes on domestic corporations fund in part accessibility to a judicial system that lowers directly or indirectly the transaction costs of various legal issues like litigation, enforcement of judgments, and contractual creation. Simply put there is efficiency in finding funding, using the laws, or having clearer better fitting rules for the underlying profit centers of the business. Thus, a market is created where states supply identities and a home to businesses.
LLCs are a bit different than Corporations (C-Corporations) in two very obvious ways. First, LLCs favor active minority investors rather than trying to attract passive minority investors, since they allow a greater degree of customization and protection in the rules that govern them. Second, C-Corporations look to incorporate in states that have favorable laws for publicly traded corporations, while LLCs have different agendas that favor funding by their internal profit centers and incorporation in states that minimize their costs.
The Numbers.So let us look at the approximate numbers and the factors that can influence businesses.
Businesses that have greater than 20 employees have about a 90% chance of incorporating in the state that houses their principal place of business.
Yet, businesses that have greater than 5000 employees have only about a 60% chance of incorporating in the state that houses their principal place of business.
There are some correlations that can be teased out that may be relevant to your business. When forming an LLC, businesses favor states that:
- makes it more difficult to pierce the veil by providing that the failure to follow formalities is not a ground for piercing the veil;
- have adopted an "oppression statute" that protect minority shareholders;
- have not adopted the Uniform Limited Liability Company Act; and
- has generally adopted stricter rules on managerial liability for duty of care violations.
Turning this to your advantage.Lets be clear about one thing - if you do not distinguish yourself from your competitors by understanding why you do things, you can lose an edge. The numbers indicate that the needs of businesses change as they grow, and that the needs are not uniform despite having several themes. You need to think about what those needs are and form your business according to those needs.
We write blog posts about our bread and butter business - the law of Business, Employment, and Chicago matters. If you find yourself asking questions, we can help. Give us a call or visit us.