Legal Structures for Latin American Startups - LatamList

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Founders, VCs and even lawyers can make decisions that can cost upwards of $100M if you get it wrong.This post is the result of investing in 80+ startups from 15+ Latin American countries since 2014 via Magma Partners, and speaking to and working with countless lawyers across LatAm, US, UK, Europe and multiple offshore jurisdictions. I wrote a version of this that I’ve been sharing with Magma Partners founders internally and decided to open source it with the hope that founders save themselves time and money and make themselves more investable.There are fairly clear outlines that most Latin American startups should likely follow. Every startup’s case is different, and each founder should get legal advice from a lawyer and tax advice from an accountant with relevant US and Latin American venture capital experience before following this guide or anyone else’s ideas.To be clear, this is not legal or tax advice. You should always work with a lawyer and accountant when thinking about corporate structures. The money you’ll spend getting good advice will save hundreds of thousands or even hundreds of millions of dollars down the road. I can’t stress this enough. Don’t just follow these guidelines. Your situation is unique. Talk to an experienced lawyer and accountant.Let’s start with a story. Brian Requarth, cofounder of Vivareal and Latitud had a big exit in 2020. His structure cost him and his investors $100M:In the early days of a startup, money is tight and it’s common to cut corners. I created a California LLC for my company because of my local accountant’s advice. He had zero experience with VC or Latin America.Later, I hired a my hometown law firm that had no VC experience, which advised me to create a C-Corp, which seemed like good advice at the time.We later realized that even though our business had no operations in the US, we would be subject to US taxes upon an exit. We had raised VC money and at this point it was cost prohibitive to restructure.We later merged with our competitors. We retained top lawyers & accountants to help us manage our extremely complex deal. The deal took an unnecessarily crazy amount of time and effort because of our original structure. But we finally came up with a solution we thought worked.When we ended up selling our combined business to OLX Brasil, we signed a term sheet, but during the due diligence they opted to buy our local entities because they saw our restructuring as a huge risk. We paid millions of dollars to lawyers & accountants to get this deal done.We finally completed the transaction, but our company paid over $100M to the United States government despite our business having zero revenue in the US.Via https://twitter.com/brianrequarth/status/1345063197146017798 Lightly edited for clarity.Brian’s story is only unique in two aspects:The $100M in taxes his company paid is really high because he was so successfulHe’s willing to share his story publiclyI know many other Latin American companies that have gone through this nightmare that ended up paying millions of dollars to the US government even though they never had US clients, US operations or even spent time in the US. Or they spent hundreds of thousands or even millions of dollars on lawyers and accountants trying to fix their original structures.The TL;DRDon’t be weirdDon’t give investors another reason to say no to investing in your business. Pick one of the structures VCs understand and are comfortable with.Delaware C Corp if:Your startup targets the US market, most of your clients are going to be in the US and you think there’s a very good chance you’ll be acquired by a US company. For example, a SaaS or marketplace that targets US clients.ORA top tier investor offers you the money and valuation you need to be successful and requires a Delaware C Corp. You are willing to take the risk of 21% double taxation.Delaware LLC if:You’re not confident a US company will be your acquirer. You can always convert to a Delaware C quickly, easily and cheaply. You can always add a Cayman or UK holding on top of your Delaware LLC. For example, a LatAm market fintech or insurtech. You are likely raising less than $500,000.Cayman Limited Holding on top of your Delaware LLC if:Similar criteria to an LLC, but you are raising significant venture capital or an investor requires it.UK Company if:You convince yourself you don’t want a Cayman structure, or an investor doesn’t want Cayman and is ok with UK. You should only use UK when an investor is willing to invest here, otherwise staying as a Delaware LLC as long as possible is likely the best decision.Double Tax: Why Did Brian’s Company pay $100M to the US Government when he had no operations or clients in the US?The short answer: you may pay a 21% double tax even if you never have a US client, US operations or even set foot in the US. If you start as a C Corp, “like the Hotel California, you can check in, but you can never leave.”When a non-US company buys a Latin American company, the buyer will very likely be interested in your local operating companies. They will not likely be interested in your US holding company. They either have their own local entities, or their own non-US structures.They will buy the assets of your US company, or they will buy the local entities in each country. In Brian’s case, they bought the Brazilian entities. Since the Delaware C Corp owned the Brazil entity, the money flowed back to the Delaware C Corp and which was a profit for the C Corp.Delaware C Corps pay 21% corporate tax on profits, and then they can distribute the profits via dividends or stock redemptions. Investors will pay an additional tax when they receive their profits in their home countries. The 21% rate is today’s Corporate Tax rate and could go up in the future.If a US company had bought the company, or it were structured as a Cayman holding company, this 21% would not be paid. To be clear, no matter what structure you choose, you are not avoiding taxes in your home countries or the countries where you operate. You continue to pay taxes operating your business in Chile, Colombia, Brazil, Mexico or anywhere you are operating, and entrepreneurs and investors will pay their own taxes in their home countries where they are tax residents.A simplified example on a $100M sale:Numbers in MillionsDelawareCaymanExit$100$100Corporate Tax Rate21%0%Corporate Tax Paid$21$0Net Proceeds$79$100Entrepreneur & Investor Tax Rate21%21%Taxes Paid$17$21Net Proceeds$62$79Note: Depending on your tax jurisdiction, entrepreneurs or investors may pay between 0% and 35% as your tax rate, depending on where you live and your local tax rates. This chart uses current US capital gains rates in the example above. There may be additional local taxes for indirect sales tax for investors and entrepreneurs under both structures.Hotel California: Why Latin American startups should think twice before defaulting to a Delaware C CorpUnlike other structures, if you start as a C Corp, it’s very hard to restructure. If you want to change your Delaware C Corp to another structure, the US will force you to pay 21% corporate tax on your paper profits. You can start with another structure and move to a C Corp easily, but not the other way around. A very simplified example of C Corp tax on leaving Delaware to restructure:Seed Valuation$5,000,000Delaware Tax Rate21%Exit Tax Paid$1,050,000Note: This is a very simplified example, an attorney and accountant may be able to lower your exit tax. The idea is to show that you will pay corporate tax on your paper profit if you try to leave Delaware C for another jurisdictionNo startup wants to pay 21% taxes on the paper upside in valuation that an investment created. Investors don’t want their money going to paying taxes to restructure a business, especially at early stage.Why do LatAm Companies use Delaware C Corps and expose themselves to double tax?It’s mostly ignorance. If you talk to any US VC that’s used to investing in US companies, they will require a Delaware C Corp because they are used to investing in Delaware C Corps for US venture deals. The vast, vast majority of US venture deals are done with Delaware C Corps. Investors know how to do one type of deal.Founders don’t know any better, most local Latin American lawyers don’t know any better. US lawyers who are not experts in Latin America don’t know any better. This is a case of continuing to follow the US rules without knowing that these rules don’t make sense in Latin America. None of the VCs, lawyers or founders are bad, stupid or trying to give bad advice. Even most VCs, myself included, didn’t know about this until we started to have exits.Things are starting to change: Many US VCs are investing in Cayman and the UKUS investors are getting on board with the Cayman holding structure. Some are also willing to use a UK structure. A few batches ago, YCombinator started to allow companies to use Cayman holding companies:We invest in US, Cayman, Singapore, and Canada corporations.https://www.ycombinator.com/deal/Many top Latin American startups are using Cayman structures, and a minority are using the UK. Some still use C Corps. Most of the top tier US VCs have invested in Cayman holding companies.Delaware LLCs could be an alternative for pre-seed and seed Latin American StartupsYou’ve probably heard that VCs won’t invest in Limited Liability Companies (LLCs). It’s generally true. But early stage LatAm founders might want to use an LLC as their first entity to preserve optionality. You can change your LLC to a C Corp, or add a Cayman or UK entity in the future, but you can’t change your C Corp without paying significant penalties. Read more about why LLCs might be good for your startup.Why UK Companies can be a Decent Fallback for some (especially Mexican) companiesUK holding companies have many of the benefits of Cayman and multiple top tier VCs have invested in UK structures for UK, European and Latin American companies.UK is more complex and less common than Cayman, but there may be a case to use it, especially for Mexican founders who are worried about Mexico’s extra scrutiny of Cayman companies. There is also a case for UK for companies that have corporates or corporate VCs on their cap tables. Some CVCs and corporates have prohibitions on investing in Cayman. Generally, this fear is likely overblown, but UK seems like it can be a solid choice if necessary.The downsides of UK companies compared to Cayman:They’re less common than Cayman, making some VCs uncomfortableYour shareholder lists are public record, in Cayman they are privateYou need to pay around $2,000 to file your accounts each year. In Cayman you do not.There is a 0.5% stamp duty on share transfers, in Cayman there isn’tCorporate share buybacks are more complex, in Cayman they are easierAvoiding the Dreaded FreezeIf you start with a C Corp and realize that you are unlikely to be bought by a US company, you can try to restructure your company using what’s called a Freeze. This creates a parallel structure with usually a Cayman holding company alongside your C Corp and tries to limit the proceeds that are subject to US Corporate tax. These freezes are extremely complex and expensive, and can cost upwards of $250,000 to structure, and then can cost $1,000,000+ to analyze at exit. You can find a more in depth overview of freezes for Latin American startups here.Indirect Tax on ExitsEven though startups structure themselves as a C Corp, Cayman or UK company, if they have local subsidiaries, they will likely have to pay an indirect tax on the sale when the holding company is acquired.These indirect taxes can be a surprise for many non-Latin American investors, and if handled correctly, generally don’t increase overall tax liability, just change the distribution of tax payments across multiple jurisdictions where the company operated. If done incorrectly, indirect taxes on exit can cause issues for founders and investors alike. You can read a more in depth overview of Latin American indirect tax on exits here. Be sure to check out how SAFEs and Convertible notes could lead to additional taxes on Latin American exits.Finding Good LawyersMany local lawyers know the law in their home country and do a great job. The majority of them don’t have venture capital experience across borders, even if they are highly rated locally. Many good US lawyers know VC well in the US, but don’t have experience in Latin America. There are likely many good lawyers who know LatAm and the US and this is by no means an all encompassing list. Here are a few we’ve been in deals with and with worked with:SV Firms with LatAm ExpertiseGunderson – Dan Green covered some of these issues on Crossing Borders PodcastWilson SonsiniWe have worked with both and they do a great job. They are more expensive and can be selective on their clients. They are a good fit if you are raising $1M+ or working with a top tier fund. Don’t feel bad if they won’t take your company because you are too early stage.Miami Firms with LatAm ExpertisePAG – Juan Pablo Capello and Liz Flores have covered many of these issues on their LatAm List columns and the Aquí y Ahora PodcastNext LegalWe work with both and they do a great job. PAG and Next Legal are good options for startups, especially those that are raising pre-seed and seed and flipping from LatAm to US or Cayman. They are going to be less expensive, while still providing good, quality work.UK Firms with LatAm ExperienceTaylor Wessing – Has worked with LatAm companies that have raised significant global VCChile Firms with Startup ExperiencePPU – They are experts in structuring from a Chilean perspectiveThis is by no means an exhaustive list. There are more firms that do a great job. If you’re an entrepreneur with a firm to recommend or a firm that’s worked with many LatAm founders, feel free to write me to include on the list.ConclusionI wrote this as a guide based on my experience as an investor. This is not legal advice. It’s not tax advice. Please do not follow it without consulting a good lawyer and accountant. Each startup and founder’s case is different and will have unique challenges and may need different structures to fit their unique set of facts. It was written in January 2021, and laws and VC behavior may change in the future.If you have any comments, questions, additions or things I got wrong, please feel free to email me, connect via Magma Partners, or write me on Twitter and I will update this post. 0 0 0 This post is also available in: Español (Spanish)Tags:cayman islandscayman/llcdelaware c corpdelaware llcgunderson dettmerlatam legal structurelatam startupsnext legalpag.lawuk companywilson sonsini Nathan Lustig Nathan Lustig is an entrepreneur and Managing Partner at Magma Partners, a seed-stage venture capital fund based in Latin America and the US. Check out the Crossing Borders podcast where he interviews entrepreneurs doing business across borders and the people who support them, with a focus on companies that have some relationship to Latin America. 4 comments Jose says: January 22, 2021 at 2:50 pmMuy interesante articulo! Hay mucho desconocimiento local en estos temas y se necesitan mas artículos así Joaquín Stephens says: January 23, 2021 at 7:37 pmExcelente post! Just one question. Why not just a Cayman/UK holding and latam op co, without a Delaware LLC? What’s the reason for a LLC in between? Santiago says: January 25, 2021 at 3:28 pmGreat advice, thanks! Giovanni Zuzunaga says: January 27, 2021 at 9:35 pmExcellent post !! Glad to hear more about UK-based firmsComments are closed. You May Also Like Read More1 minute read IInsightsHere are Brazil’s next potential unicornsbySophia WoodAugust 26, 2018 There are now 258 startups across the world that have reached “unicorn” status, or a US$1B valuation. 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The article provides a detailed analysis of legal structures for Latin American startups, emphasizing the critical importance of choosing the right corporate framework to avoid significant financial and operational pitfalls. Nathan Lustig, an entrepreneur and venture capital partner at Magma Partners, draws on his experience investing in over 80 startups across 15 Latin American countries since 2014. He highlights a recurring issue: many founders, investors, and even lawyers make costly mistakes by selecting structures that lead to unnecessary tax liabilities or complications during exits. The core message is that while there are general guidelines, each startup’s situation requires tailored legal and tax advice. The article underscores the risks of defaulting to U.S.-centric structures like Delaware C Corporations without considering Latin American-specific factors, such as tax implications and the likelihood of U.S. acquisitions. Lustig uses real-world examples to illustrate how poor structuring can result in millions of dollars lost to taxes or legal fees, even when a company has no direct U.S. operations or clients.

One of the central narratives revolves around Brian Requarth, co-founder of Vivareal and Latitud, whose company faced a $100 million tax liability due to an improperly structured entity. Requarth initially created a California LLC based on his local accountant’s advice, which lacked expertise in venture capital (VC) or Latin American markets. Later, he switched to a Delaware C Corporation, which, although seemingly prudent at the time, subjected his company to U.S. corporate taxes upon a subsequent exit. Despite efforts to restructure and merge with competitors, the company incurred substantial legal costs and ultimately paid millions in taxes to the U.S. government, even though it had no revenue or operations there. This case exemplifies a broader trend: many Latin American startups adopt U.S.-based structures without fully understanding the long-term consequences, such as double taxation or the difficulty of reversing decisions. Lustig stresses that while the $100 million figure is extreme, it reflects a systemic issue where founders and investors often prioritize short-term convenience over strategic foresight.

The article outlines four primary legal structures for Latin American startups, each with distinct use cases and trade-offs. The Delaware C Corporation is recommended for ventures targeting the U.S. market or expecting a U.S. acquisition, as it aligns with the preferences of many U.S. VCs. However, it carries a 21% corporate tax rate on profits, which can be compounded by additional taxes when dividends are distributed to investors. This structure is also notoriously difficult to restructure, as exiting a Delaware C Corp requires paying taxes on “paper profits,” even if the company has not realized actual gains. In contrast, a Delaware Limited Liability Company (LLC) offers greater flexibility, allowing startups to convert to a C Corp later without incurring significant penalties. This makes it suitable for early-stage companies with less than $500,000 in funding or those uncertain about their acquisition trajectory. For startups raising substantial venture capital or facing investor demands, a Cayman Islands holding company atop a Delaware LLC is often preferable. The Cayman structure avoids U.S. corporate taxes on exits, as profits are taxed in the investors’ home jurisdictions rather than in the U.S. However, it adds complexity and costs, including higher legal fees and compliance requirements.

The UK Company structure is presented as a viable alternative in specific scenarios, particularly for Mexican founders concerned about Mexico’s scrutiny of Cayman entities or for companies with corporate venture capital (CVC) on their cap tables. While the UK offers similar tax advantages to Cayman, it has drawbacks: shareholder records are public, annual filings cost around $2,000, and share transfers incur a 0.5% stamp duty. Additionally, corporate buybacks are more complex in the UK compared to Cayman. Lustig notes that while these structures are increasingly accepted by U.S. VCs, the choice ultimately depends on a startup’s growth trajectory, investor preferences, and geographic focus. The article also warns against the “Hotel California” dilemma—once a startup adopts a Delaware C Corp, it is difficult to exit without incurring significant tax liabilities. This metaphor underscores the importance of flexibility and forward-thinking planning, as restructuring later can be prohibitively expensive.

A key section of the article addresses the issue of double taxation, which occurs when a Latin American company’s assets are acquired by a U.S. entity or another foreign buyer. If the startup is structured as a Delaware C Corp, profits from the sale are taxed in the U.S., even if the company has no U.S. operations. This can result in a 21% corporate tax on the exit value, followed by additional taxes for investors when they receive dividends. In contrast, a Cayman holding company avoids this tax burden, as profits are taxed in the investors’ home countries. Lustig provides a simplified example: a $100 million exit would yield $79 million net proceeds for a Delaware C Corp after corporate taxes, compared to the full $100 million for a Cayman structure. However, he cautions that this does not eliminate taxes altogether; companies must still pay local taxes in their operating jurisdictions, and investors face tax obligations in their home countries. The article also highlights the risk of indirect taxes on exits, such as sales or transfer taxes in Latin American countries, which can complicate cross-border transactions if not properly managed.

Lustig further emphasizes the importance of selecting experienced legal and tax advisors, as many local lawyers in Latin America lack expertise in cross-border venture capital structures. He recommends working with firms like Gunderson Dettmer, Wilson Sonsini, and Taylor Wessing, which have experience with Latin American startups, as well as regional firms such as PAG and Next Legal for pre-seed and seed-stage companies. The article stresses that while U.S. VCs often favor Delaware C Corps, this preference is not universal, and many are now open to Cayman or UK structures. This shift reflects a growing recognition of the complexities faced by Latin American startups, as well as the increasing presence of global VCs in the region. However, Lustig warns that even top-tier firms may not fully understand the nuances of Latin American tax systems, making it essential for founders to seek specialized advice.

The conclusion reiterates that the article is not a substitute for legal or tax counsel, as each startup’s circumstances require individualized planning. Lustig acknowledges that the landscape is evolving, with changes in VC behavior and regulatory environments potentially altering optimal strategies. He encourages founders to remain adaptable, consult experienced professionals, and avoid relying on generic templates. The article closes with an invitation for feedback, reflecting the author’s commitment to refining the guide based on new insights and experiences. Overall, the piece serves as a cautionary tale about the high stakes of corporate structuring in the Latin American startup ecosystem, advocating for a balance between strategic flexibility and long-term financial prudence.