THE LLC CONCEPT
The Limited Liability Company (LLC) has special features that distinguish it from ordinary companies. Like a corporation, an LLC has a legal existence separate and distinct from its owners. Like the shareholders and directors of an ordinary company, the members and managers of an LLC are not personally liable for the LLC’s debts and obligations. The principal attractions of the LLC for advisors and their clients are its operation and tax treatment:
Operationally the management of the LLC functions similarly to a partnership and is governed by a written agreement among the members of the LLC; this is different from the traditional corporate governance of companies where management is outlined in the Articles of Association (also known as Bylaws).
A properly structured LLC will be treated by many tax regimes as a pass-through entity with tax being paid by the members and not at the LLC level.
THE DELAWARE LLC
Each of the 50 states of the United States is constitutionally an independent legal jurisdiction with the right to enact laws in many areas of activity. Each state has enacted its own LLC statute with most states doing so after 1988 when the U.S. Internal Revenue Service commenced issuing rulings that an LLC would qualify for partnership tax treatment. Among the states, the state of Delaware has emerged as the premiere LLC jurisdiction with approximately 25,000 LLCs being formed annually. The status of Delaware as the leading LLC domicile is linked in part to the important role played in the U.S. by the Delaware corporate legislation and its Chancery Court in the development of American corporate jurisprudence. The influence of the Delaware corporate regime is evidenced by the fact that more than half of the companies on the Fortune 500 list and of the companies listed on the New York Stock Exchange are domiciled in Delaware.
An equally important factor for Delaware’s popularity as a corporate domicile is the pro-business role of the Government of Delaware; specifically the office of the Secretary of State which is responsible for corporate formation.
FOREIGN OWNERSHIP OF LLCs
There are important tax and corporate governance advantages to the ownership by non-U.S. persons of a Delaware LLC. These are:
1. No restrictions on foreign ownership or management of the LLC. Members may be individuals or business entities of any nationality or domicile. Single member LLC’s are permitted. . With the exception of a Registered Office and Registered Agent in Delaware, no physical presence is required.
2. The LLC management agreement is not a matter of public record and can be in any language.
3. No disclosure in the public record of the names of the members or managers of the LLC.
4. Non-residents of the U.S. who are members of an LLC and who are not otherwise subject to U.S. federal income taxation pay no tax in the U.S. if the LLC’s income is from non-U.S. sources and the LLC carries on no business in the U.S.
5. The LLC’s corporate records may be maintained outside of the U.S.
6. The ownership interests in an LLC of an individual non-resident of the U.S. are subject to the U.S. estate tax but can be avoided if the ownership interest is held through a foreign company.
On formation the LLC files a Certificate of Formation with the office of the Secretary of State which lists:
1. The name of the LLC which name must contain the words “Limited Liability Company” or the abbreviation “L.L.C.” or “LLC”.
2. The name and address in Delaware of the LLC’s registered agent and registered office.
The LLC is not required to make any reports to the State of Delaware of its members, managers, directors or income.
If the LLC has more than one member it is required after establishment to apply for a Federal Tax Identification Number and on an annual basis to file an information return with the U.S. Internal Revenue Service. Provided that there is no income earned from United States sources that would be taxable by the U.S., the information return will reflect that the LLC had no taxable income for the relevant tax year. As part of our LLC management service we can apply for the LLC’s tax identification number and prepare and file the LLC’s annual information return.
If the LLC has only one member its existence as a separate entity can be disregarded for U.S. federal income tax purposes. The single member LLC is not required to apply for a Federal Tax Identification Number nor file an annual information return.
A unique feature of the LLC legislation is that it allows members to define their business relationship in a written agreement which governs the operation and management of the entity.
The policy of the drafters of the LLC legislation was to allow members of the LLC the maximum freedom of contract in the commercial context. As part of our LLC service we provide clients with a specimen LLC operating agreement for their use.
The members of the LLC may choose whether they wish to manage the entity or to appoint a member or a third party to be the manager. There is no requirement that members themselves be the managers of the LLC. A member acting as the manager or a third party acting as the manager is not liable for any debts or liabilities of the LLC solely by reason of that person being a member or acting as a manager.
The typical LLC agreement will address the following issues:
• Identifying the party responsible for managing the LLC.
• Rights and duties of the manager and any limitations or restrictions on such authority.
• The economic rights of members, including the making of contributions to the LLC, the right to receive allocations of profits and losses, and the timing of and restrictions on distributions by the LLC to its members.
• Any special voting rights.
• Any classes or groups of members or managers with different rights, powers and duties.
• The issuance and transfer of interests in the LLC, the admission and withdrawal of members.
• Mandatory and non-mandatory purchase of interests in the LLC on the occurrence of specified events such as death, disability, resignation or expulsion of a member.
Where the operating agreement is silent on a management issue, the provisions of the LLC statute will apply.
PARTNERSHIP TAX TREATMENT
Depending on the tax domicile of members it may be possible to provide through a written agreement of members for allocations of income and/or deductions of an LLC treated as a partnership among members on amounts which differ from the membersˇ economic interests in the LLC as well as the ability to provide a tax basis to members for non-recourse debt. It also is permissible for the members to elect for an LLC to be treated as a separate corporate entity.
USES FOR LLCS
The LLC structure is particularly attractive as an alternative to the use of general partnerships and limited partnerships as the LLC provides all members with limited liability protection against claims of creditors. This protection benefits entrepreneurs and other start-ups.
The pass-through tax character of the LLC means that for a single member LLC tax return preparation and reporting occurs only at the member level with resulting cost savings and administrative efficiencies for all businesses that can operate in an LLC structure.
Venture capital, real estate and other types of joint ventures can take advantage of the ability to use the LLC operating agreement to allocate profits and losses among participants in a manner which reflects the business agreements they have reached.
The ability to limit the life of the LLC can also be used effectively in joint ventures, start-ups and other projects with a transactional purpose that is for a specified time period.
The LLC can be employed in the international context to achieve tax efficiencies where the income of an LLC is allocated among members from different tax regimes.
DELAWARE LLC FORMATION AND MAINTENANCE FEES
Name availability search, name reservation, preparation and filing of the Certificate of Formation (including all filing fees), preparation of members registers, issuance of membership interests, preparation of LLC operating agreement, liaison with client.
Each LLC is provided with a filed copy of the Certificate of Formation, standard LLC operating agreement, Form 8832 (Entity Classification Election) and Form SS-4 (Application for Employee Identification Number).
Our Delaware LLC service also includes the provision of a company kit which contains member certificates, company seal, member transfer ledger and a register of members.
Annual Maintenance US$525
Payment of annual filing fee, providing Registered Office and Registered Agent services including forwarding of LLC Tax Notice.