As you contemplate series LLCs, be aware of some notable issues.
In 1996, Delaware introduced the series LLC. As one of the newer entity choices, series LLCs are an interesting creation. The idea was derived from Delaware’s statutory trust law, which was popular with mutual funds. Under this law, an investment company could form a trust with separate series, each with their own investors. The implementation of the series LLC gave mutual funds the option to use an LLC instead of the statutory trust, which was a much more flexible and desirable option. And it allowed for one Securities and Exchange Commission (SEC) filing, with each fund conducting its activities separately.
The idea evolved into other industries, such as real estate investing. It has also spread to other states. Today, 23 states allow the formation of series LLCs. (Other states may not allow the formation of series LLCs, but many will allow a series LLC to register as a foreign entity doing business in the state.)
A series LLC consists of a “master” or “umbrella” LLC and “series” (sometimes referred to as “mini-LLCs”) established under the umbrella LLC, usually through the operating agreement. Each series is treated as a separate entity for limited liability purposes, even though only one LLC is actually formed. The series LLC is an attractive option since a real estate investor, for example, could hold 10 properties in one LLC and each property would enjoy limited liability as if they were in separate entities.
But is it too good to be true?
Maybe.
A series LLC certainly seems like a sensible option to achieve the goal of separating assets without having to form multiple LLCs. However, there are some notable issues with the series LLC.
First, as noted above, less than half of states allow for formation of the series LLC. And, although most states will allow series LLCs to register to do business as foreign entities, they may not recognize the separation of assets as intended in the structure.
Some states, such as California, have mandated that each series counts as a separate entity for franchise tax board purposes, thereby removing the cost savings incentive for using them. Therefore, if you do not live in a state that allows for formation of series LLCs or if you plan to work across state lines, series LLC may not be the best choice for you.
Another issue with the series LLC is that it has not yet been tested legally, even in the states that permit them. That means there is no guarantee that limited liability protection will be extended to each series until each state rules on the subject. Do you want this type of uncertainty when you are trying to protect your assets?
To make matters even more confusing, how to deal with the series LLC in business situations is unfamiliar territory across the board. The IRS isn’t quite sure how to deal with them yet and if your CPA isn’t well versed in series LLCs (many are not), you may find yourself in trouble at tax season. The series LLC is not yet recognized in the U.S. Bankruptcy Code, so it is unknown whether a series may file for bankruptcy on its own or the entire LLC must file for bankruptcy.
Furthermore, people have reported issues with everyday tasks such as getting an EIN for each individual series and getting separate bank accounts for each series as banks are still unfamiliar with the structure.
And when it comes to financing, banks have been known to gain security on all the series—and the umbrella itself—instead of the one series seeking a loan.
With all the uncertainty and confusion still surrounding this new entity, we consider it advisable to stick with the traditional LLC for now. Even though you may need to pay filing fees for each entity, you will be assured that the IRS, banks, other institutions, and CPAs will be familiar with the structure. And, most importantly, you can be sure your entity structure will stand up to legal scrutiny—as long as everything is set up correctly and you have kept up with the corporate formalities.
Garrett Sutton is a corporate attorney, asset protection expert, and bestselling author who has sold more than 900,000 books to guide entrepreneurs and investors.
For more than 30 years, Sutton has assisted entrepreneurs and real estate investors by protecting their assets and maximizing their financial goals through sound management and asset protection strategies. The companies he founded, Corporate Direct and Sutton Law Center, have helped more than 10,000 clients protect their assets and incorporate their businesses.
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