DOING BUSINESS OUTSIDE YOUR STATE: FOREIGN QUALIFICATION
What does it mean to qualify to do business in a foreign state, and is it something your company needs to do? What happens if you don’t qualify and what are the legal ramifications? If you’re a corporate attorney, are you prepared to advise clients on the matter?LEARN MORE
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Not all business activities constitute you doing business in a foreign state, but there are times that failure to qualify can leave your company facing negative consequences.
Join CSC for a complimentary CLE webinar by Frank Ballantine and Beth Lynden of Dykema Gossett PLLC, on state foreign qualifications, recent case law, and critical principles of conducting business outside your state.
Disclaimer: Please be advised that this recorded webinar has been edited from its original format, which may have included a product demo. To set up a live demo or to request more information, please complete the form to the right. Or if you are currently not on CSC Global, there is a link to the website in the description of this video. Thank you.
Annie: Hello, everyone, and welcome to today's webinar, "Doing Business Outside Your State, Foreign Qualification." My name is Annie Triboletti, and I will be your moderator.
Joining us today are guest speakers Frank Ballantine and Beth Lyden, from Dykema, and Jason Welch from CSC. And with that, let's welcome Frank, Beth, and Jason.
Frank: Thanks very much, Annie. This is Frank Ballantine, and my colleague Beth Lyden and I, of Dykema Gossett, are thrilled to be here to help you out today and share our thoughts and get your thoughts back on doing business. Dykema is a national law firm that's dominated by middle market clients, but represents some of the largest businesses in the world all the way down to startups.
Today's presentation is going to be providing an overview of the foreign qualification process for doing business within a state, when to qualify, why qualification is necessary, and what happens if an entity should be qualified but is not. This overview makes limited reference to two related topics, which are whether an entity is subject to service of process within a state or whether it's subject to state taxation. But those are their own topics, and mostly we'll be talking about the boundary questions between having to register as doing business in a state versus being subject to being dragged into court or being subject to state taxes.
It's important to note that the overview does not relate to any specific state. Every one of the 50 states have doing business statutes, and they're interpreted by their state courts. And so it's important in each instance to look at the facts of your business practice against the applicable state laws, again both statute and the interpretive court cases.
As an overview, the United States Constitution protects interstate commerce from state regulation, but states are entitled to regulate internal activities within their boundaries. That's the fundamental distinction that puts you into state regulation when you're doing more than interstate commerce.
But it's also important to note that the federal government is not actively enforcing the Constitution. They don't have like a constitutional enforcement department. However, states do actively enforce their doing business laws, and the reason for that is fundamentally that it's about protecting their public and raising fees from out-of-state non-voters.
So while there are general patterns among the laws of each state, each state has its own laws, and they do vary.
Excuse me, I got a slide behind. First of all, we're talking about entities. Most often corporations are limited liability companies. And the way to think about these, if you're not a corporate lawyer and don't focus on this technically, is that these are legal persons that are created by the authority of a single state. Every corporation is created by the authority of a single state, dominantly in America Delaware. But, for example, Beth and I sit in Chicago, and there are a lot of local companies that are domiciled, as it's called, in Illinois. Nevada has picked up on Delaware's state statute and created its own and its pattern, and so there are a number of companies domiciled in Nevada.
But there's no such thing as a federal corporation. So all this regulation is at the state level. And, of course, most entities, sorry many entities, although not most entities conduct business in multiple states. Your local pharmacy may not, but of course CVC does. That's the classic difference. And most businesses are in between your local pharmacy or CVC.
Foreign qualification is what we call it when an entity that's formed in one state becomes authorized to do business in another state, because again remember a corporation doesn't exist like you and me, just because we exist. It exists because it's recognized by a state. So to go into an additional state, it needs to be recognized. And foreign qualifications is a curious name because it has nothing to do with businesses coming here from other countries, and it has to do with businesses doing, conducting their activities among multiple states.
After an entity becomes qualified, it generally has to comply with the foreign state's typical requirements for businesses, filing sometimes less frequently but mostly an annual or a semiannual report, in California, I think it's every two years, and providing a registered agent for service of process within the state. As I mentioned before, all the states have enacted laws relating to this.
So I already gestured towards why the states want entities to qualify. But digging down a little bit, they do want to protect their citizens and their local businesses. So qualification allows a state to know who's doing business in their state, gather information about them, such as who are the human beings behind it, what's the nature of the business, where are they operating. It also enables them to have information that lets them evaluate tax and providing other reporting and applying licensing requirements, which are often state and municipal licensing requirements, and therefore sort of evens the playing field and doesn't give an advantage to foreign entities by avoiding that regulation.
The registration, well, Beth is going to talk about this in a minute, but while the registration to do business is distinct from being subject to service of process, which has a lower threshold of presence than doing business does, it facilitates questions around service of process as well as tax by requiring foreign entities to maintain a registered agent. But then, I mean I'm a little bit of a cynic on this. I think the main reason states want foreign entities to register is because they're raising revenue from people who aren't voting. Think of it like O'Hare Airport and outside Chicago's hotel tax, most of the travelers who are paying that hotel tax are from out of state, not the voters.
So I gestured towards the interrelation between state authority and interstate commerce. And it's important to note that if all you're doing is sending information or sending goods or online solicitation into a state, you're not doing business there. You have to have, and we'll talk a little more about this, but you have to have some presence in the state that is more than, if you will, passing through. Although, as we'll note, these are often all of the facts and context tests that require one to assess the aggregate of the activities. But one always can consider, well, are we only really serving customers from our home base and not doing internal activities within another state.
Beth is going to take it next.
Beth: Thanks, Frank. So generally when a corporation is operating in a foreign state, that state will, depending on the business activities, will want to be able to tax that corporation. They will want to be able to assert general jurisdiction, personal jurisdiction specific or general. And it might be sufficient level of activity to require that corporation to qualify in that state. And each of these powers rely on the type of conduct in that state that this foreign corporation is conducting.
So each have their own definition of doing business, and they're very similar, but they're slightly different thresholds. And we'd also like to note that a lot of states' foreign qualification statutes, their definition of "doing business," they will specifically exclude from application of that state statute service of process or determining whether or not a company is doing business for purposes of taxation. Like New Jersey, that excludes service of process or taxation. New York, it excludes service of process. The Revised Model Business Corporation Act, which is what many states have enacted, that excludes service of process, taxation, and regulation.
So in the tax context, a state will generally impose tax on an entity to the extent there's a sufficient nexus or some sort of connection that exists between that entity and the state. They can find a sufficient taxable nexus through that corporation's physical presence within the state or the type of activity. More recently, states have been focusing on an economic nexus standard. So merely y receiving interest, dividends, or royalties might be sufficient to subject a foreign corporation to taxation by that state by foreign states. So it can be a purely like gross receipts amount. In New York, I think for tax years, it's going to increase after the 2022 tax year, but I think currently it is $1 million in receipts, and that can subject foreign corporations to franchise tax there.
So that's a different issue, but it should be considered if you intend to operate outside of your state. In fact, it's a very, very easy threshold to go over, especially with the economic nexus standard.
In the jurisdiction context, there are three basic ways that a foreign state court can get general jurisdiction over a company. So it would be . . . Oh, excuse me. So there are three ways, three places where a corporation can be held, can be subject to general jurisdiction, the courts of the state. That would be its home state. It would be its principal place of business state. And in the exceptional case, it would be a state where its activities are such that it's rendered essentially at home. This is a very high standard, and it's probably the hardest one to accomplish.
So more recently, there's been an increase in cases that have been arguing that by merely registering as a foreign corporation in a state that you have consented to general jurisdiction, and therefore this would not violate due process. Luckily, most courts that have addressed this issue have held no, merely registering to do business in a state will not equate to consenting to general jurisdiction in that state.
There has been a case in Pennsylvania, for the Pennsylvania statute. It's a mandatory consent essentially. Just by merely qualifying, the corporation is consenting to general jurisdiction. They are provided notice of this. But because the option, the choice really is between registering and being able to do business in that state versus not it's mandatory and it's not a voluntary choice. So the U.S. Supreme Court has actually agreed to hear this case, and we should have a decision by late fall. So that's a really interesting case to follow. That's Mallory vs. Norfolk Southern Rail Company. I suggest everybody pay attention to that one because the states can require or mandate general consent, consent general jurisdiction just by qualifying as that opens up pretty much every state where you operate and do business for purposes of qualifications to the general jurisdiction of that state.
So back to our focus of this presentation. What requires foreign qualification? So as Frank mentioned, if you are operating in a state other than your home state and doing business there, you're generally required to qualify or be authorized to do business in that state. Doing business will be defined by that state's foreign qualification statute. Typically, they will define doing business in the negative. So there's going to be a list of activities that do not constitute doing business. And because it's defined in the negative, generally speaking, if your activities do not fall within one of these buckets, you're doing business. But you have to look at how courts have interpreted each of these exceptions to doing business, and that requires you to really dig into the case law. So you need to look up the doing business statute in the state where you're operating outside your own state, and then you have to look at the case law.
So something to frame how you're viewing these cases is kind of broad stroke the very common definition of doing business is regular, repeated, and continuous business context of a local nature. So common triggers would be having a physical location. You have a business location that's very much local. If you have employees in that state who are conducting your business activities. If you have regular contacts, business contacts within that state. If you have regular meetings within that state. Significant revenue because this would be coming from repeated, not isolated business activities. You're just ongoing business activities within that state. These would be common triggers.
And for an example of what a state's doing business definition looks like, this is Illinois. So these are the lists of activities that will not constitute doing business in Illinois. And this is largely . . . it follows a lot of the exceptions that are found in the Revised Model Business Corporation Act. There are two or three that don't appear in here that we'll touch base on.
So the first one would be engaging in litigation and other proceedings. So maintaining, defending, or settling legal proceeding does not constitute doing business in Illinois. So a proceeding would be like that covers like civil suits, criminal cases, initiatives, actions, and any like complaints that the company might want to file. So just merely engaging in legal proceedings will not constitute doing business.
This is somewhat different, and we'll touch on this later, access to the courts for a company that should have qualified but did not generally will be barred from maintaining a legal proceeding until it registers to do business. But we'll come back to that later.
The next category would be internal affairs of a company. So this would be covered by exceptions two and four. So just holding meetings of board members or shareholders, if they're just handling internal affairs, taking a vote, this in and of itself will not constitute doing business.
Similarly, just having an office for transferring securities of that corporation, that will not constitute doing business because these are essentially internal affairs of the company. You can have officers and representatives who reside within a foreign state, but you have to be really careful about what kind of activities those officers are conducting, because they can make executive decisions that impact the company, but if those activities become pretty regular, systematic, if they extend beyond just the pure internal workings of that company, it might be viewed as a business office of that company, which will take it out of this exception to doing business and that company would need to register.
Following that, number three, maintaining bank accounts is a pretty common one. Just having a bank account in a state in and of itself will not constitute doing business. That one is pretty self-explanatory.
The next category would be sales through independent contractors. This is number five. These would be viewed as transactions by that independent contractor, not by a foreign corporation. Even if there's like rules or certain guidelines that the company sets for these contractors, they will still be viewed as transactions of the independent contractors so long as like those rules or guidelines aren't too pervasive, they're not too restrictive. It has to be evaluated on how independent this contractor is operating. You would have to look at the case law of a specific state to really kind of dive into how this section is applied there. But, I mean, you can take a guess and how much restrictions you can place on an independent contractor before they're considered more of actual agent or an employee.
The next one would be so for number six, soliciting or obtaining orders by mail. This is an interstate commerce protected category. This and also another exception that most states don't include this exception. It's in the Revised Model Business Corporation Act. Just engaging in interstate commerce, they generally don't include this because they don't have to. It's just there. It will apply regardless of what that statute says. But this is a variation on that, such as soliciting orders within a state in and of itself, so long as like that requires acceptance outside of the state and fulfillment initiated outside of that state, they'll generally still be considered as interstate commerce and not something that the state will be able to regulate.
The next one would be more passive actions, such as exception seven for owning real or personal property without more will not constitute business, doing business within the state. So passive owning a property for investment purposes, that would be fine. If activities extend beyond that, you really need to take a look at the case law within that state.
Isolated transactions, again we have to focus on like the concept of doing business involves regular, repeated, continuous business activities in that state. So if it's an isolated transaction, generally it will not constitute doing business. The state will attempt to define what is and is not isolated by putting a time limit. For Illinois, it's 120 days. Other states I think go down to 30 days even. But it really depends on that state statute and again case law. But some transactions can be like up to a year. It really depends on the nature of the transaction and how that company generally operates. So again very facts dependent.
Two exceptions that are in the Revised Model Business Corporation Act that are not in the Illinois statute involve creating or collecting on a debt. So just making a loan or getting a security interest for that loan or even foreclosing on that loan under the Revised Model Business Corporation Act would not constitute doing business. This is very much a state law. Each state has adopted or chosen not to adopt this exception. It's kind of all over the place. Some do not adopt the exceptions. Others have got one they can make a loan, but they cannot collect from that loan. And if it's a company that should have qualified but did not and would like to collect on the loan, it might be hard. So that is very much something that needs to be . . . you have to look at statute and review case law.
I think that covers most of our exceptions example.
Frank: So you'll see, as we go forward, that a lot of this, the slides circle one another. But let's consider for a second sort of another angle of attack on these issues — what is not considered doing business. And one is sort of an exceptional instance for most companies, but that's coming into the state with respect to a state declared emergency. You can imagine the reasoning behind that and that most businesses don't participate that.
And we've talked before about doing interstate commerce. But let's look again and from some slightly different angles at that.
First point I want to make is it's really a defense, right? I sort of jokingly made the point there isn't a federal department of interstate commerce enforcement. Well, that department can be the federal courts, but that's not where we want to be as business people.
So Beth mentioned and I want to highlight that forming your contracts in your home state or in a state with a major facility where you're already registering to do business is certainly one of the keys. But in this in this contemporary world, if you think about this webinar and you think about CSC and consider that CSC we're only located in one state, and that instead of being customers you are employees. We have a lot of organizations with distributed employees and contractors. And whenever you have distributed employees working from home, it poses close questions regardless of what else you're doing in interstate commerce, because they're not holding themselves out, they're not advertising.
Basically, you know, if you think of it in practical terms, you're doing business in a state if you're using state resources in some respect. The problem, of course, is and this is part of the reason that we include taxation and service of process here in this presentation, is that if the employees are present in that state, you have to withhold their state income taxes. And so you're bringing yourself to the attention of the state even if you're otherwise doing interstate commerce. And you can sort of choose to take a risk that the department of revenue doesn't talk to the secretary of state or department of business services. But the reality is you've told the state you're there already. So it gets a little more dicey even with contractors who are working from home. Distributed call centers and distributed code production are the two most frequent examples, because you're not withholding state taxes to them. You're just sending them money.
These become questions of looking at the cases. And if you've got local resources of counsel or advisors, such as CSC, that can tell you how the state behaves, what its policies are, these become rules of prudence. And the reality is that for all the technical stuff that we're talking about, often business people make business judgments based upon their sense of risk, their risk allocation relative to their costs. And some businesses just don't want to get into this kind of technical stuff. They don't want to hire outside lawyers. They don't want to take their internal opportunity costs to assess things closely, and they think of the registration process as the equivalent of insurance. You know, you pay an annual insurance premium and maybe you don't have a claim that year. Similarly maybe you pay your registration to states where it's a close call and you simply can go on about your business without having to worry about getting tripped up with an enforcement and then having to invoke the interstate commerce clause and engage outside lawyers and distract yourself from conducting business.
So Beth has talked about some of this, but we want to reiterate again. If you have a physical presence in a state, you are likely to be doing business. If the business holds itself out, if it's in the phone book, if it's got a website that shows an address in that state, if it advertises.
I once had to research this and found a case that involved bolting radio towers to the ground in a state in which the company had no broadcast facility in the state. So in other words they were sending radio waves into the state and they had transmission towers that distributed those radio waves around the state and presumably to other states as well. Because they bolted their towers to the ground, they were found by the court to have local presence. So that's in my mind an extreme example of physical presence.
Repeatedly engaging in transactions in a state, Beth talked about this. I want to talk about one case in particular in which there was a business that provided regular but intermittent power plant maintenance services. Their offices were out of state. Their contracts were formed out of state. Their employees and contractors brought their own tools in. There was nothing in the state except for like two days every six months they would maintain the power plant, but they did it over and over again. Let's say just, I don't remember the details of the case, but let's say four days a year for years the court said you are here. You have to register.
I talked about the diceyness of having employees and even contractors in the state. And lastly, and this sort of makes sense, if you're doing intrastate commerce, then you're going to register to do business. So, you know, let's say you've got a delivery service that's delivering something from the Loop to suburban Chicago. That is clearly intrastate business.
We've talked repeatedly about the fact that every state has a statute, but they're different. They have case law, and the case laws are different. But I want to emphasize the point that Beth made, that in the end of the day, the analysis in addition to being statutory and case law is also qualitative and quantitative. It involves judgment, and so you need people that you're working with who are seasoned in order to exercise that judgment.
I'm pausing because I just thought of a client of mine that was a family-owned business, about an $80 million a year business that we sold to a Fortune 100 business. And it was a food business. They were both food businesses. And our client, unbeknownst to me as lawyer, had refrigerators in fast convenience shops around the country, that contained their goods for sale. They promoted the sale of their food, their frozen food by providing the retailers with freezers that all they had to do was plug it in and our people would come and stock it. This was discovered in diligence, when we were selling it to the Fortune 100 company, and I think there were about 35 states in which the client had failed to register to do business because it hadn't focused on the issue. It hadn't brought anything to our attention as outside lawyers. And the Fortune 100 company was, as you can imagine, climbing all over it. The Fortune 100 company decided not to force my client to register to do business. They just decided that wasn't how they did business, and they pulled the refrigerators and ducked. And nothing, to my knowledge, ever happened.
So I guess I've already made some of the points on this slide. But it's both cumulative over time and the character of the business. And sending sales reps, that's a tough one. You've got to look at each state. Sending sales reps who don't live in a state into another state is not necessarily going to be doing business. But again, as with these staffers who were doing maintenance on a on a power plant, the repetition can create issues that you have to examine state by state.
Similarly, inventory is a classic example of having presence in a state. But if you're only using a third-party manufacturer warehouse to fulfill contracts formed out of state and advertised through interstate commerce, it may be that that is not enough on its own. But then you look at the two of them together and you have a potentially different result.
Well, we've already made the other two points on this slide repeatedly. The volume and periodic intermittency of the activity is examined by courts. And both the statutes and the case laws are different from one another.
Beth: Thanks. So foreign qualification, a lot of companies might neglect to pay sufficient attention to this issue, either unintentionally or intentionally. They might want to avoid it because they want to avoid all the filing fees, the additional taxes, the reporting requirements, having to appoint an agent for service of process. They just might not want to have to engage in all that oversight.
And there are consequences to this in many states. One of the first and probably most often, most frequent consequence that we see is that that corporation that should have qualified as a foreign corporation will be barred from maintaining litigation within that state. This should be distinguished from that corporation's ability to defend any litigation. That will still be allowed. But if a corporation should have qualified, they will be barred from continuing litigation, asserting claims until they register.
And there will be fees and penalties usually associated with registering late. So in Tennessee, it will be a penalty of three times the amount of fees that were owed. In Illinois, there's a 10% late charge associated with late registration.
And again, for the ability to sue, regarding initiating litigation or claims versus defending or asserting mandatory counterclaims, it kind of is whether or not there's like some sort of affirmative relief being sought. So that is kind of how you have to view that. But again, most courts will allow a foreign corporation to register in order to continue litigation. So in most cases it's not going to kill the litigation, but it will be stayed until registration has been completed. It's better to just avoid that, because again the penalties get set for failure to register in a timely fashion can be a lot.
There's also personal liability. Some states, like the directors or the officers can actually have personal liability for failure of their company to register as a foreign corporation. Usually it's fines, but some actually there's potential for jail time, which is crazy. So that is what you're dealing with if you fail to register in a timely fashion.
Jason: Thanks, Beth. I mean, of course, looking at this from a practical, administrative standpoint, one might ask how is this information relayed to states. For example, how does a state know when I began doing business? On many of the qualification forms that you file with states, not all, but on many, there is a typical question that says something to the effect when did you begin transacting business in the state if applicable. So, you know, answering that question and if you had been doing business for several years without qualification, you are going to be subject to whatever fines, fees that that state has deemed as necessary. And so typically what happens is these penalties are added at the time of a filing fee. So in addition to paying the filing fee, you're paying a penalty.
So going back to what's at stake, the ability to sue, you know this I defer to Beth and Frank on this. Enforcement of contracts, contracts are void or voidable. We can go back to this in a bit, but I just want to talk about kind of administratively the penalties involved and how states differ.
So, for example, Illinois is actually quite complicated in that the fees for doing business without qualification can really increase depending upon certain particulars, revenue and years of not qualification. And it's time consuming. Of course, you know, you have to pay the fees, but it's also time consuming for the legal team to come up with the answers to the questions, for the business to prepare the forms. So again, it's not just the money. It's also the time spent in preparing forms and trying to get your documents filed with the state.
And you'll see Florida. Basically, you see an increase of penalty over time in many states. And some states, for example New York, for a corporation, if you've been doing business in that state without qualification, you would need to obtain tax clearance from the New York Secretary of State Department of Taxation. This would further delay you being able to file your qualification with the State of New York. So if you're in a situation where you urgently need to file that qualification, that is going to really affect whatever transaction you may be involved with.
So obviously, we want to stay out of the penalty box here. And there's a lot of situations that arise. For example, across my desk, I work mainly with large law firms in the New York City market. They may be focused on helping their client form the Delaware company, and then the company itself, the in-house legal department would then be tasked with preparing qualification paperwork for any states where they're doing business. It's something that you don't want to see the ball get dropped in that situation where you form a company and then it gets handed off, the legal work gets handed off to the in-house legal department, and months, years go by before appropriate action is taken to determine where you need to qualify to do business.
Or more important, another situation, and this I'll just briefly explain, when there is a merger and the non-surviving company is qualified in many states and the survivor is not qualified in those states, but will be doing business, it's important for those involved in the transaction to research and determine does the surviving company need to be qualified in the non-surviving company states, and if so, we better take prudent, swift action to get those qualifications filed to avoid financial penalties.
So with that, Beth, do you want to go back and talk about any of the contractual legal issues?
Beth: Thanks, Jason. So general states will allow a company that failed to qualify, it will not impair the validity of the contracts that that corporation made while it was unqualified, provided that that company does qualify. However, if in the time period between making that contract and the company properly qualifying, there is a chance that the counterparty might void the contract. And if that happens, then you run a risk of an unenforceable contract. So it's really important to make sure that if you would be required to register, to register in order to enforce your contracts.
And I think that was the last point that I wanted to make on that slide. Jason?
Jason: Yeah. I mean and going on to continuing on what's at stake, again personal liability issues. Let's see here. Personal liability, some state statutes impose fines on individuals. Even it may amount to a criminal offense. Outside of my purview, but something that you certainly want to consider as you go through this process, making sure that your company is qualified to do business when necessary.
Frank: So I want to talk a moment about corporate naming, because as I said at the beginning, a corporation is an artificial person created by a single state, which then as it expands may go into other states. You think about your corporate name at three levels, and one of them is implicated here. One is trade name protection, either common law through use or federal. The other is domain name protection so that you have the online ownership of your name.
But the third is state law protection, because if you're FrankCo and you're organized in Delaware and there's another FrankCo in Illinois, when you try to come into Illinois, you're not going to be able to be FrankCo. You will lose your name. And so one of the one of the prudential reasons to make sure that you're active on this, excuse me active in assessing where you should be registering to do business, pronouns are dangerous, I just said this the first time, registering to do business is to protect your brand so that you make sure you can use the corporate name in which you've presumably invested a significant amount of energy around your corporate identity as you move into different states.
We also wanted to just give an example of the kind of information that you need to provide. Again, in Illinois, I just talked about this, the true corporate name. So often things are, particularly in this day of web advertising and marketing, people don't put their true corporate name on their websites. I often find with new clients who are trying to do conflicts, that it's hard to find out what their true corporate name is, and our conflicts department is very meticulous about this.
An entity has to have inc, corporation, company, LLC, limited. It has to have an ending after its prank name, after its best name, after it's JSON name. It has to be inc or corp or something. And so the states want to understand precisely what the corporation name is. The date and state of incorporation. A key, we've talked about service of process, is the registered agent and registered office in Illinois. Service companies, such as CSC, provide that. That doesn't mean you have to even rent a Post Office box much less an office.
Names and addresses of the directors and officers, this is one on which there's a there's a frequent practice to sort of skirt what may in fact be the rule, and that is that in this day of transparency and antagonism, reporting companies often use the address of the registering business for their offices and directors and not their home addresses. As we move into a culture of increasing transparency, that may no longer be possible at some point, but currently that's a common practice.
The purpose of the business in Illinois, and Illinois is illustrative, as Jason already mentioned, of a state that taxes on shares. Or excuse me, Delaware taxes on shares. Illinois taxes on paid-in capital. There are some economic calculations that have to be done to determine the amount of the tax. It's not just in many states a flat tax per corporation.
And the final point, the amount of property and business conducted in the state is another basis on which the fees are determined and assessed.
So when you think about this process of registering, considering whether to register, where to register, when to register, there's sort of three ways, four ways maybe that it comes up, but the fourth way is sort of a subset of the third way.
One is you have a compliance approach. You just want to be in good stead. and maybe you view it, as I mentioned, as the equivalent of an insurance policy that you're just going to pay because you've got better things to do.
The second, both Jason and Beth have talked about, is it comes up in contract disputes. And you can imagine if you're in a dispute, the other side is going to look for every advantage that it can, and one of those potential advantages is to bring out that you don't have access to the courts, particularly if you're trying to enforce. It used to be the states wouldn't let you defend, but most states now let you defend a contract dispute, but they don't let you enforce a contract without being registered if you need to be registered.
And then the third category is transactions. What kind of transactions? Taking debt, taking equity, selling and buying businesses, M&A. And the issues come up in reps and warranties, because you have to represent and warrant that you're in usually material compliance with all obligations. As Jason illustrated, the stakes can be high enough that, particularly for a large company, a failure to register can be material. And also for lawyers, legal opinions where we have to put our firms on the line with respect to the conduct of the client's business.
The other that you want to consider is taxes. We've talked about frequently whether you're subject to state income tax, the franchise tax, use taxes, whether you're going to be subject to penalties and the like.
So to conclude, it's a matter of state statute, state case law. I've talked about the Model Act. It's a good grounding, but, as she illustrated with Illinois, not all states follow the Model Act. So you need, even if you're going to make prudential judgments or opportunity cost judgments rather than strictly technical, legal judgments, those prudential judgments should always be made in the context of the stakes.
Each state is different and makes its own determination. As we've said, the assessment is both qualitative and quantitative. Qualitative, what's the nature of the activity. Quantitative, how much is the activity.
If you're an in-house counsel, one associate general counsel of a very substantial corporation once told me that most of his job is to make sure he doesn't get excluded from meetings where decisions are being made to create risk for the entity. And so you've got to know the ins and outs and the nature of your business. I mentioned the small business that didn't have any in-house compliance officers, that the issue came up when we sold it to a Fortune 100.
Consider interstate commerce. But as I've said, that's more of a defense. I don't think you want to . . . That's a last resort to defend yourself with the fact that you're only doing interstate commerce and you're not doing intrastate business.
Weigh the consequences in the particular state or states if you don't register and how registering fits into your compliance budget and staffing.