Tuesday, October 5, 2010

Proposed IRS Regulations on Series LLC

What is a series LLC?

A series LLC is a relatively new entity form that provides for the creation of multiple LLCs under the umbrella of one organization, like a corporation with multiple subsidiaries. This entity form was first enacted in Delaware in 1996, and is sometimes known as Delaware LLC. Creating a series LLC allows for limited liability protection across all “series” or “cells”, thus protecting each cell from the liability that may arise in another cell. It is commonly used in real estate, where each property can be held in a separate LLC cell, whereas the owner owns just one company. So far, nine states (Delaware, Illinois, Iowa, Nevada, Oklahoma, Tennessee, Texas, Utah, Wisconsin) and Puerto Rico have adopted legislature providing for the creation of series LLC. Although all these states provide for a significant degree of separateness for individual cells (each cell can own its distinct business purpose, assets, liabilities, different managers and members), most do not provide for all attributes of a separate entity. Therefore, cells are ordinarily treated as a single entity for state law purposes (typically, a series LLC would pay just one filing fee).

What do proposed regulations say?

On September 13, 2010, the IRS released proposed regulations governing the federal tax treatment of cells within a series LLCs. The main question that the IRS aimed to clarify was whether for Federal tax purposes each cell of a series LLC should be treated as a separate entity or whether the series LLC (including all its cells) should be treated as a single entity (like under state law).

The proposal is to treat each cell as a separate entity formed under local law, regardless of whether or not the state law treats such cell as a separate legal entity. The tax treatment of each cell will be determined by check-the-box regulations. So, for example, if a series LLC has two cells, one with two partners and the second one with one partner, the first cell will be treated as a partnership for the federal tax purposes, whereas the second cell will be treated as a disregarded entity.

IRS proposed regulations can be found here: http://www.journalofaccountancy.com/Web/20103328.htm.

How will the proposed regulations affect series LLC as the entity choice going forward?

Once adopted, the regulations will provide much needed guidance and clarity for the tax payers. At the same time, the regulations add additional complexity for LLC series owners since each cell will be required to file its separate tax returns and annual information statements with the IRS. However, it seems that despite this added complexity, the series LLC will remain an attractive option for those business owners who want to form multiple limited liability companies while paying only one filing fee.

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