Your business has been growing, and you may be considering expanding into another state. But there are some things you should know before making the leap.
Companies that expand their operations across state lines may be subject to the new state’s registration or “foreign qualification” requirements. Let’s explore what that means and why it’s essential to comply with these important rules.
What is foreign qualification?
Foreign qualification is the process of registering your business to operate in a state other than the one in which you incorporated or formed your business.
For example, if you formed or incorporated your company in Delaware, it is considered “domestic” in that state.
However, if you decide to expand into another state your business would be considered a “foreign” entity (ex. foreign LLC or foreign corporation) in any other state and must register to do business in that state.
Penalties for not registering your business
There can be serious consequences for failing to foreign qualify your LLC or corporation. Doing business in a state – but not registering with that state – could mean a loss of your limited liability status, monetary penalties, and more.
You’ll also need to obtain the necessary licenses and permits required to operate in that “foreign” state or risk penalties from the state or local government. They could even close your business.
Not registering your business could also mean that your company is prevented from bringing or maintaining an action in the courts of the state in which you do intrastate business. For example, if you wanted to enforce contracts made in that state, you may be denied access to the courts because your business is considered “unqualified”.
In extreme cases, many states can issue monetary sanctions for each day of non-compliance.
How do you know if you are “doing business” in another state?
There is no easy or clear-cut answer to this question. To determine if your business must qualify as a foreign entity in another state, you would need to evaluate your company’s activities in and contacts with each state. Consider whether any of these activities constitute “transacting business” under the laws of that state and if these activities are deemed “intrastate” commerce.
Unfortunately, few states define these terms. Instead, they provide a list of activities that do not constitute transacting business within the state. These activities also vary from state to state.
However, most provide that any entity isn’t required to foreign qualify if its presence in the state is limited to minimal activities, including:
- Soliciting orders for goods provided that the contract requires acceptance outside the state
- Making sales through independent contractors
- Maintaining bank accounts
- Creating and securing debts and mortgages
For most businesses, the main trigger for foreign qualification is having an employee in that state. That is unless that employee’s sole function is soliciting orders that require acceptance outside the state before becoming binding contracts.
Sales tax considerations for remote sellers
There is an important distinction between “doing business” in the context of foreign qualification and “doing business” for the purposes of tax law. State taxing authorities often take a more aggressive stance as to which activities are considered “doing business.” This, in turn, creates the need for a nexus (or authority) for taxation.
Internet sales tax laws are a good example. In 2018, the U.S. Supreme Court decided a case — South Dakota vs. Wayfair, Inc. — upholding that a state can require out-of-state sellers to collect and remit sales taxes, even if they have no physical presence in that state.
How to register a business in another state
To register your business in another state or “foreign qualify” you must file a Certificate of Authority with that state. Some states also require a Certificate of Good Standing from the state in which your business is formed or incorporated. There is a filing fee for this process that varies by state and according to your business structure.
To learn more about the foreign qualification process, read: What is doing business in another state (foreign qualification)?
Other compliance obligations
Once registered with the state, your company must obtain the necessary business licenses. Determining which licenses are needed can be a daunting task for small businesses since all state and local requirements must be considered. These can vary depending on the type of business you operate.
Your business may also need to maintain a registered agent in your new state of operation.
Finally, as a foreign qualified business, you will likely need to pay taxes and annual report fees in both your state of formation and the states where you’re foreign qualified.
BizFilings' foreign qualification service includes access to business monitoring to help you stay on top of important future state filings. Visit our Foreign Qualification Service page for more information or call us at 855-300-7729.