Series LLCs: Are They for Your Business? – Part II
The first chapter of this article introduced Series LLCs as a relatively new and increasingly popular form of business entity to enable business owners and investors to operate multifaceted businesses under one entity somewhat like a holding company with subsidiaries for various operations and related assets, and for the owners to enjoy the benefits afforded separate business operations for ownership of assets, tax purposes and protection of one business activity and its assets from exposure to liabilities of another, all within one legal entity. Beginning with the Delaware Series LLC statute in 1996, eighteen States, the District of Columbia and Puerto Rico, have adopted Series LLC enabling statutes. Four of those states, including the Commonwealth of Virginia, have adopted the Uniform Protected Series LLC Act (the “Uniform Act”) which provides a broad level of uniformity among their Series LLC statutes.
There are some fundamental similarities in requirements for Series LLCs organized in states that have adopted enabling statutes. Although requirements for creating a Series LLC differ in some respects from state to state, common requirements include:
- The parent Series LLC and the series operate under one LLC Agreement;
- The LLC Agreement provides for establishment of a series;
- The assets of each series must be separately identified, segregated and maintained;
- The LLC Agreement must contain language that contemplates existence of the series and establishes managers, members, assets, liabilities, and obligations of each series as distinct and separate from each other and from the Series LLC parent; and
- The Series LLC’s certificate of formation must contain notice of the limitations of liability among the parent Series LLC and the series.
Series LLC statutes also generally permits each series to own and hold its assets, sue and be sued in its own name and interest, enter into contracts, and conduct the series’ business operations to meet its business purpose. A series may also generally be terminated or abandon its business in favor of another without affecting the parent Series LLC or any other series, thus enabling series to enter and exit lines of business without undesired consequences to the parent Series LLC or other series
The IRS issued Proposed Series LLC Regulations in September 2010 (Reg-119921-09) to settle treatment of Series LLCs and their series for income tax purposes and concluded that each series of a Series LLC is to be treated as a separate entity for federal income tax purposes regardless of its state law status. As such, the tax status of each series would then be determined under the “check-the-box” regulations, which permits each series within a parent Series LLC to elect independent status for federal income tax purposes. Thus, a series with a single member is to be treated as a disregarded entity, and a series with two or more members is to be treated for income tax purposes as a partnership by default or as a corporation by election.
The Proposed Regulations, which remain in effect, also concluded that ownership of interests in a series, and ownership of the assets associated with a series, is determined under general tax principals, which provide that ownership depends on who has the economic benefits and bears the burdens of ownership of the assets rather than treating the parent Series LLC as the owner of assets merely because it may hold legal title to such assets. Thus, each series enjoys the tax attributes of the assets it uses in its business.
Despite general similarities among Series LLCs of the states that have adopted enabling statutes, there are also differences which may be significant, requiring that the applicable statute be thoroughly studied, and distinctions understood and regarded. If the statutory conditions for organization and operation are satisfied, those members who are specifically associated with one or more series are considered to have direct ownership in the series and their rights, duties and powers are direct. The debts, liabilities, and obligations of a series are enforceable only against the assets of that series and not the assets of other series or the parent Series LLC. But not necessarily so if the Series LLC deviates from the requirements of its enabling statute. For example, significant unique characteristics of some Series LLC statutes are:
- Delaware’s statute does not require the series to be identified in the organization document filed with the Secretary of State but must provide such detail as is required for a Delaware corporation if it chooses to voluntarily identify each protected series in such filing. The Series LLC is permitted to merely include in its certificate of formation that it may create one or more protected Series, and that suffices for providing public notice of the series that are created.
- The District of Columbia and Illinois, on the other hand, require a separate filing for the organization of each protected series, and the protected series has the option to elect by a statement in its articles of organization to be treated as a separate legal entity under state law.
- Some state statutes require a filing listing the name of each protected series that is to have the protection of internal shields.
- Other state statutes require a filing but do not require a statement in the filing that the series enjoy protection from internal shields.
Some states’ statutes include “false series” provisions that permit the series concept for LLCs and provide for segregation of assets, liabilities and owners, but do not provide for internal liability protection between or among series. The assumption in such states should be that protective shields do not exist for domestic Series LLCs and that they may not be available for foreign Series LLCs and their series who do business in the state.
California’s LLC statute does not provide for domestic Series LLCs but requires that a foreign Series LLC registration must provide a statement that the Series LLC is governed by an agreement providing for separate rights, powers and duties with respect to specified property or obligations, profits and losses and also declare whether debts, liabilities and obligations incurred are enforceable against the assets of the series only and not against the foreign Series LLC.
Florida’s statute does not permit domestic Series LLCs but provides that each individual foreign protected series of a foreign Series LLC must apply for a certificate of authority.
The bottom line in states that have not adopted the Uniform Act is that the enabling statute and other laws of a state should be studied when organizing a Series LLC in the state or doing business in the state with a foreign Series LLC.
The next chapter will address some of the more important areas of law that remain unclear when applied to Series LLCs and their series.
ABOUT TOM HICKS
C. Thomas (“Tom”) Hicks III has more than 35 years business law practice experience in Northern Virginia. Mr. Hicks represents business clients in all their legal needs, working with the management team as outside general counsel, and otherwise coordinating the company’s general legal needs. Mr. Hicks assists the organizers with choice of business entity and organization, initial and private equity financing and debt financing. He advises the management team regarding corporate governance, executive employment and compensation matters, contract matters, business acquisitions, equity and asset sales and merger, and business breakups and dissolutions of business entities, among other legal areas. He also advises business executives and companies regarding stock and other equity benefit plans, and wealth planning and asset protection. Mr. Hicks has advised commercial real estate developers in all legal aspects of their business.
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