With the new year rapidly approaching, it’s time for founders to start thinking about their startup taxes. Taxes can be an overwhelming and complex subject, but fortunately we’ve created a guide to help you prepare for tax season and stay focused. Below is a list of the tax areas that you should be paying the most attention to as a startup founder.
Company Tax Considerations
Most high-growth startups are incorporated in Delaware. Delaware charges an annual franchise tax in order for companies to maintain their corporation in the state. The Delaware Secretary of State provides a process for companies to file and pay their franchise taxes. However, determining a franchise tax obligation can be confusing at first glance. Here is a breakdown of the most important information to know about Delaware franchise taxes.
- Franchise taxes are due March 1 every year. Not paying franchise taxes by the deadline results in a $200 late fee with 1.5% monthly interest and potentially voiding the corporation in Delaware if the taxes are not paid for two years.
- Franchise taxes are calculated by either the Assumed Par Method or the Authorized Share Method. The Authorized Share Method is the default method and calculates franchise taxes based on the total shares the company has authorized. Following the calculation, a standard startup with 10M shares authorized would have to pay $85,165.00. That is obviously untenable for a young company. The good news is the alternative method produces a much more affordable result. The assumed par method uses a calculation based upon the company’s gross assets, total authorized shares, and the total issued shares to derive the results. The overwhelming majority of startups that Gust Launch works with will pay the minimum franchise tax for the assumed par value method: $400 (plus the $50 filing fee). If you are interested in a more detailed breakdown of the calculation, check out this Gust Launch FAQ.
- Companies must also file an annual report with Delaware when they pay their franchise taxes. Companies need to report any updates to their corporate officers and address to Delaware.
- If any Gust Launch company needs assistance in filing their franchise taxes, our filing partners, Harvard Business Services, can help for a small fee. We provide more detailed instructions on how a Launch company can access those services when we send out the official franchise tax notices and within the Launch platform.
Some other states also have franchise taxes. If you are a Delaware corporation and qualified to do business in another state, you should check if that state also assesses franchise taxes or other annual fees. Notably, California and New York are two states that also have franchise tax regimes. You can typically find franchise tax information for other states on the website for their Secretary of State.
Corporate Income Taxes
Much like personal income taxes, corporations must also file income tax returns every year both at the state and federal level. Preparing corporate tax returns can be time intensive and complicated. Here is some important information to keep in mind that will help make things easier.
- State and federal income taxes are due April 15 this next year. Even if a company has not had substantial operations or received any revenue, it is still obligated to file a return.
- Companies can start to electronically file their corporate tax returns at the beginning of February.
- The company can also file an extension to extend the filing deadline to October 15, 2020. If the company likely owes tax, it may need to make an estimated tax payment before filing the extension.
- The penalty for not filing a timely return is 5% per month of the tax liability up to a maximum of 25%. Failure to pay the tax liability is .5% per month of the tax liability up to a maximum of 25% along with interest. Also, for companies that have foreign shareholders that own more than 25% of the corporation, an additional filing (Form 5472) must also be filed. The penalty for not filing that is $25K. Long story short, file your taxes on time!
- At the very least, a company will need an accurate income statement and balance sheet for the previous year to accurately calculate their tax obligation. Our tax filing parter, Greenback Business Services, can not only help a company prepare their tax return (with a discount), but also clean up their books leading up to tax season.
R&D Tax Credit
The R&D tax credit is an opportunity for startups to save up to $250,000 in payroll taxes each year through a government program that rewards investment in innovation. To claim the R&D tax credit, you’ll first need to determine your startup’s eligibility. If eligible, you’ll then need to file the R&D tax credit Form 6765 along with your corporate tax return by April 15th. Gust Launch partners with Clarus R+D to assist you through the entire qualification and filing process.
Learn more about the R&D tax credit and why your startup should take advantage of this tax incentive.
Personal Tax Considerations
Section 83(b) Elections on Vested Stock
Section 83(b) provides an opportunity for shareholders with unvested stock to save a considerable amount of money on their taxes. The primary beneficiaries of an 83(b) election are the founders, but certain steps have to be taken in order to obtain these tax savings.
- The shareholder (not the company) has to make an election within 30 days of the stock grant. Once the deadline has passed the election can no longer be made.
- The shareholder needs three copies of the election. One copy (the original) needs to be mailed to the IRS, one copy to the company, and one to be retained for the shareholder’s records.
- Gust Launch generates the necessary forms with instructions on which office the shareholder should mail the 83(b) election.
- Founders: make sure you are helping shareholders keep track of their deadlines as well. Don’t be the one that has to bear the bad news once the deadline has been missed.
Qualified Small Business Stock Exemption
The Qualified Small Business Stock (QSBS) exemption allows a C-Corp's stockholders to potentially write off 100% of the capital gains from the sale of the stock. This is a huge windfall for founders and their early investors at the company’s exit. Additionally, keeping the company’s stock eligible for QSBS is very important for early investors and many preferred stock agreements have qualifying for QSBS as a precondition for investment.
There are specific requirements that have to be met in order to take advantage of QSBS. Here are some of the requirements to keep in mind.
- The exemption applies to stock issued by an active, domestic C-Corporation with less than $50,000,000 in assets.
- The stock has to be held for five years by the original holder to be eligible.
- The maximum write-off is $10,000,000 or 10 times the aggregate adjusted basis (what the stock is worth when sold minus what it cost), subject to some limitations, of the QSBS stock (whichever is higher).
- Talk to your tax advisor if the company needs to repurchase vested stock. Stock redemptions can possibly make all stock no longer qualify for the exemption.
- Paying for the shares with cash is generally seen as a better evidence of the value of the stock at original purchase. Paying for stock with IP and other intangible property often comes under more rigorous audit scrutiny than paying for shares with cash.
While taxes may not be the most exciting part of startup life, they are critically important for every founder. As a founder, you should pay close attention to filing dates and consult a professional to ensure that you’re filing completely and correctly. Gust Launch provides founders with discounted tax support services through its partners at Greenback Business Services, as well as in-platform tax reminders to help prevent missed deadlines.
Gust Launch can help you prepare for tax season.
This article is intended for informational purposes only, and doesn't constitute tax, accounting, or legal advice. Everyone's situation is different! For advice in light of your unique circumstances, consult a tax advisor, accountant, or lawyer.