On the tax efficiency of startup firms

Eric J. Allen (), Jeffrey Allen, Sharat Raghavan () and David H. Solomon ()
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Eric J. Allen: University of California, Riverside
Sharat Raghavan: University of California, Berkeley
David H. Solomon: Boston College

Review of Accounting Studies, 2023, vol. 28, issue 4, No 1, 1887-1928

Abstract: Abstract We examine the choice of organizational structure for VC-backed startup firms. These firms overwhelmingly organize as C-corporations rather than as tax advantaged limited liability companies (LLCs). This results in foregone tax savings of $43.9 billion, or 4.9% of the total equity invested in the sample firms. The decision is puzzling, given plausible estimates of the direct costs involved, but appears related to “hassle” and other transition costs generated by participants implementing a new form. Firms with more employees and investors are likely to choose the C-corporation. VCs appear to prefer the C-corporation form, as receiving VC money is associated with most LLC firms switching to a C-corporation within 30 days. Greater VC preferences for C-corporations are linked to a preference for familiarity, and less attention to taxes.

Keywords: Limited liability company; Venture-capital; Startups; Tax; G24; G32; H26 (search for similar items in EconPapers)
Date: 2023
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DOI: 10.1007/s11142-022-09677-1

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