Did bogus business filings artificially boost Colorado’s economic data? And what should the state do?

Colorado residents have formed a record number of new businesses this decade, especially after the state reduced the filing fee for new limited liability companies or LLCs to $1 in the summer of 2022.

The fee holiday, however, also triggered a surge in fraud, as evidenced by a lawsuit against one individual who registered more than 15,000 new businesses to a single Northglenn address.

More than a year on from the fee relief, business registration delinquencies are rising sharply, indicating some filers’ level of commitment didn’t extend beyond submitting paperwork.

That has raised concerns about the reliability of business registration numbers and whether the job gains and economic activity expected to follow on the heels of so many business starts will materialize. Several rankings have touted Colorado as a top state for entrepreneurial activity, creating a distorted picture.

“I haven’t been running our employment forecast using the business filing data. I don’t think it is predicative right now and it will take some time,” said Brian Lewandowski, executive director of the Business Research Division at the Leeds School of Business at the University of Colorado Boulder.

Lewandowski and his team are tasked with taking the business filing numbers from the Colorado Secretary of State and publishing a quarterly report. Historically, new filings provided insights into forecast future job gains, but that link has been broken, at least in the near term.

About 8 in 10 new business registrations in Colorado, sometimes more, represent LLCs, which are popular because they are easy to set up and offer individuals a shield against personal liability.

Before the pandemic, from 2005-19, the average annual pace of new LLC filings in Colorado was 68,016. From 2020 through projections for 2024, the average pace of annual filings nearly doubled to 134,683 a year.

Some of the gains early this decade reflected people who took the initiative after the pandemic scare. Colorado has also enjoyed an influx of younger and entrepreneurial newcomers from other tech hubs like northern California, which could be another contributing factor.

Filing activity, however, shifted into an even higher gear following the passage of the Colorado Business Fee Relief Act, which transferred $8.4 million from the State Treasury to the Colorado Secretary of State to cover fee reductions. That allowed the lowering of the filing fees for new LLCs from $50 to $1 and the fees for new trade names from $20 to $1.

“This fee relief will keep money in the pockets of small-business owners, many of whom have faced adversity and uncertainty over the last few years,” Secretary of State Jena Griswold said in July 2022 when announcing the fee holiday.

Faced with strong demand, the program ran out of money in mid-May, before the fiscal year was finished, due in part to thousands of fraudulent filings and registrations by people more interested in securing a name than in establishing a functioning business.

That likely saddled genuine entrepreneurs who could have benefitted from fee relief with higher costs.

An LLC mill

The most egregious case of alleged fraud involved Marcio Gracia Andrade, who Colorado Attorney General Phil Weiser accused in March of taking advantage of the lower filing fees to create 15,433 new LLCs registered to a single address in Northglenn.

Andrade operated a shelf registration company that established LLCs, aged them, and then resold them down the road at a profit. Owning an older business can create the perception of being established and makes it easier to obtain credit and other benefits.

“Neither the property owner nor the resident gave the defendant permission to use the Northglenn address in the business filings,” Weiser said in a release last month announcing a settlement. “Moreover, Andrade was not eligible to serve as a registered agent in Colorado when the fraudulent businesses were filed with the state because he did not have a primary residence or usual place of business in Colorado.”

Andrade, who has denied any wrongdoing, agreed to pay $75,000 in restitution and to accept the dissolution of most of the LLCs he formed. Weiser, in a trial scheduled for next month, was seeking to reclaim $760,000, a sum closer to what Andrade would have had to pay at the normal $50 per LLC registration.

During the fiscal year that overlaps with when Colorado offered a filing fee discount, there were 173,366 new LLCs registered, said Jack Todd, a spokesman with the Colorado Secretary of State.

Andrade’s LLC filings represented close to 9% of the total made during the fee holiday. Figures have not been released on how many other fraudulent or suspect business filings might have been made.

Dissolve and disinfect, but don’t scrub

For some economic indicators, like the number of people on a payroll, revisions are par for the course. They come out a month after the initial estimates and again several quarters later when more reliable counts are gathered from unemployment insurance premium reports.

For example, the Colorado Department of Labor and Employment initially estimated employers in the state added 4,800 nonfarm jobs in July, a solid gain. But when the August numbers came out, July’s increase was lowered to only 800 jobs.

Unlike payroll counts, Lewandowski said business filings were considered a stable indicator that didn’t need revision, aside from rare and minor ones related to timing issues.

A question that has come up is whether the Secretary of State should “scrub” fraudulent filings from the official record or keep them in place and wait for the muddied waters to clear up in future reports.

Business starts are linked to future job gains and economic health not unlike how the number of acres planted can help predict future harvests. A lot can happen in between sowing and reaping, but inflated business starts distort perceptions from the get-go, creating an argument for scrubbing.

Last calendar year, Colorado measured a record-setting 160,611 new LLCs, according to the Colorado Secretary of State, joining what was a record 5.5 million new business registrations nationally, according to the U.S. Census Bureau.

Colorado ranked fifth in the country in per capita new business filings, with a 115% gain between December 2022 and December 2023, according to a ranking from the U.S. Chamber of Commerce, which relies on U.S. Census numbers that correlate closely with state numbers.

WalletHub, at the start of the year, ranked Colorado as the seventh best state to start a business, behind Arizona and ahead of Texas.

But rankings that don’t rely as heavily on business registrations show a less robust picture. A July study from CNBC had Colorado as the 16th best state for business, down from 11th the prior year. A ranking from U.S. News and World Report looking at the growth in businesses paying unemployment insurance also had Colorado in the 16th spot.

Lewandowski said studies and rankings of entrepreneurship or business climate typically rely on multiple measures, not just business starts.

An argument can be made that a filing is a filing, regardless of the intent behind it, and that the state has the authority to dissolve suspect registrations. That would support keeping the registration data as is, putting an asterisk on it, and moving forward, which is the course the Colorado Secretary of State has decided to follow, Todd said.

“Confirmed fraudulent filings will be included in dissolution metrics. They will not be removed from registration statistics,” Todd said in an email.

Andrade’s actions were substantial enough to bring the state’s double-digit growth in new LLC filings closer to a single-digit rate. And more broadly, lower fees likely motivated people to form a business sooner than they might have otherwise, borrowing from future activity, Lewandowski said.

New LLC filings plunged in the first half of the year in Colorado, with a 24.2% annual drop in the first quarter followed by an even larger 28.4% drop in the second quarter. But in the third quarter, which offers the first year-over-year comparison since the fee holiday expired, the decline was smaller at 6.3%.

Just as huge job gains likely won’t follow record business registrations, the big drop shouldn’t be viewed as a warning sign of a deteriorating economy.

After a year, LLC owners must file a periodic report and pay a $25 fee to keep their registration with the state active. If they don’t, the entity becomes delinquent, which isn’t a good look for an operating business.