How to Make My LLC a Parent LLCBy Tom Speranza, J.D.
How to Make My LLC a Parent LLCBy Tom Speranza, J.D.
A limited liability company (LLC) is a type of business entity recognized by all 50 states that combines characteristics of corporations (e.g., limited liability) and partnerships (e.g., flexible structure, profits and losses passed through to owners). For liability reasons, you may wish to create a parent LLC.
Parent Versus Subsidiary
When one business entity owns more than 50 percent of the equity of a second business entity (stock, in the case of a corporation, and membership interests, in the case of an LLC), the first entity is the "parent" and the second entity is a "subsidiary." A parent is said to control a subsidiary because ownership of a majority of the equity typically allows the parent to elect the subsidiary's directors, if it is a corporation, or appoint its managers, if the subsidiary is an LLC.
Forming the New Subsidiary
Follow these steps to transform your LLC into a parent LLC.
1. Choose the Entity Type.
Your subsidiary will either be a corporation or another LLC. As a general rule, corporations require more paperwork and filings than LLCs and are less flexible when it comes to ownership structure. The tax treatment of corporations and LLCs depends on whether you want to pay income tax at the entity level or pass the profits and losses through to the owners.
Whether the subsidiary will be owned solely by the parent or have additional owners may be relevant to choosing between a corporation and an LLC. Your corporate or tax lawyer and your accountant can explain the pros and cons of each entity type.
2. Choose a State.
Give some thought as to where to form the subsidiary. Using the same state as the parent LLC might be a logical choice if the subsidiary's operations will be in the same location, but there might be other factors to consider, such as:
- If the subsidiary will have significant assets and operations in another state, it may make sense to form it there.
- If the subsidiary will have additional investors or owners other than the parent, they may prefer a well-known business jurisdiction such as Delaware or New York.
A corporate or tax lawyer can help you determine which state makes the most sense.
3. Choose a Name.
Each state requires its business entities to have relatively unique names to avoid confusion, so create a list of three to five possible names in case your first choice isn't available. If your subsidiary will be a corporation, it may need to include "Corp.," "Inc." "Incorporated," or "Corporation" in its name. If you decide to form an LLC, the name may need to include "LLC" or "Limited."
4. Draft and File Formation Documents.
To form an LLC, file Articles of Organization, sometimes called Articles of Formation, in the proper state office. Corporations form by filing Articles of Incorporation, sometimes called a Certificate of Incorporation. Pay the state's required fees when filing.
If the parent will be sole owner of the subsidiary, the Articles of Organization consist of a short and simple document. With additional owners, the paperwork can be more complex. A corporate lawyer can draft formation documents that fit your particular situation.
5. Capitalize the New Subsidiary.
For the parent LLC to acquire its equity in the subsidiary, it needs to make a capital contribution to the subsidiary in exchange for stock, if the subsidiary is a corporation, or membership interests, if the subsidiary is an LLC. A capital contribution can take various forms, including:
- Business assets, such as when a parent LLC moves an existing or new line of business into the subsidiary
- Services, such as management of the subsidiary
- A capital commitment, which is a contractual promise to contribute cash in the future
After making the capital contribution, a corporation subsidiary issues stock to the parent LLC in the form of a stock certificate. An LLC subsidiary reflects the parent LLC's percentage ownership, or membership interest, in the LLC's operating agreement.
6. Complete the Subsidiary's Initial Documentation.
The subsidiary needs legal documents in addition to the formation documents that were filed with the state. A corporation subsidiary must have:
- Bylaws, which is a document spelling out the rules by which the shareholders, directors, and officers manage the company
- Initial resolutions of the shareholders electing directors to the board and adopting the bylaws
- Initial resolutions of the directors appointing officers
- A standard form of stock certificate
An LLC subsidiary is usually easier from a document standpoint because it needs only an operating agreement to govern the relationships of the members with one another and the company's managers. If the parent is the sole member of the subsidiary—making it a single-member LLC—the operating agreement can be a simple document.
Creating a subsidiary of your existing LLC can give you the ability to legally separate the parent's business and assets from those owned by the subsidiary. Your lawyer and accountant can help you choose a structure that works for you and your business.
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