Pros of a Series LLC
- Limits exposure of the LLC and all the assets owned by the LLC
- Pass-through taxation like a regular LLC
- All the personal liability protections of a regular LLC
- No additional setup costs above the regular LLC
- No downside of opting-in to be a Series LLC
The Limited Liability Company (“LLC”) has become an extremely popular type of entity due to its personal liability protections and tax benefits. This type of entity can be extremely beneficial for business owners and entrepreneurs who desire to retain control of their company, while offering liability protections.
Recently, there has been a lot of interest from my real estate investor clients regarding a newer type of LLC in Texas, the Series LLC. The Series LLC is an excellent way for real estate investors to own multiple assets in a single LLC, as the assets of a Series LLC are allowed to be compartmentalized, isolated, and insulated from one another, without the headache of dealing with complex business structures with numerous entities.
What is a Series LLC?
A Texas Series LLC is a limited liability company that has the ability to create one or more sub-series within a single LLC structure. If operated properly, the debts, liabilities, obligations, and expenses incurred with respect to a particular sub-series are enforceable only against the assets owned by that particular sub-series and are not enforceable against the assets of the parent LLC or any other sub-series. The term “Series LLC” is proper for the parent or actual LLC. A Texas Series LLC can have series or units within the Series LLC framework which are called “series,” but are often referred to as “sub-series” to avoid confusion with the Series LLC.
Basically, a Series LLC is a type of LLC that provides tax benefits and legal protections to multiple divisions of a single LLC, while also shielding each individual division from the liabilities of other divisions and the parent LLC.
There are many advantages to the creation of a Series LLC, including pass-through taxation, reasonable start-up costs, streamlined administration, effective liability shields, and limited exposure. A Series LLC has the same start-up costs as a regular LLC, with a few minor additional charges for filing fees to create each sub-series.
State Taxes: The Texas Comptroller, for its purposes, states that a “Series LLC is treated as a single legal entity. It pays one filing fee and registers as one entity with the Texas Secretary of State. It files one franchise tax report as a single entity, not as a combined group, under its Texas taxpayer identification number.” This limits the overhead costs and tax complications that would be associated with owning multiple LLCs.
Privileges: Even though each sub-series is not technically a stand-alone legal entity in its own right according to Sec. 101.633 of the Texas Business Organizations Code (the “BOC”), each sub-series is empowered to many of the privileges of an individual entity. These include filing and defending lawsuits; entering into contracts; buying, selling, and holding title to property; granting liens and security interests; borrowing money; and “exercise any power or privilege as necessary or appropriate to the conduct, promotion, or attainment of the business, purposes, or activities of the series.” BOC Sec. 101.605(5). A sub-series can also obtain its own EIN if it chooses and be treated separately for federal tax purposes.
Property: As property ownership goes, the assets of each sub-series within the LLC can be held separately and apart from the assets held by other sub-series and by the company at large. The important point is that each sub-series is insulated from the others as well as from assets and liabilities held by the parent LLC. Also, the parent LLC can still own property without a sub-series designation as an asset of the company at large.
Exposure: The biggest differentiator between a Series LLC and traditional LLC is the exposure. A Series LLC limits its exposure by containing liability within each sub-series, which does not spill over to other sub-series or the company at large.
Classification: Additionally, The BOC Sec. 1.201(b)(27) has now been amended to include a sub-series within the definition of a legal “person.” Given all of these characteristics, declaring that a series is not technically a stand-alone legal entity may be a distinction without a difference, at least most of the time.
Options: Finally, a great benefit to forming an LLC as a Series LLC is that it is not necessary to implement the sub-series aspect of a Series LLC unless and until one is ready to do so; until then, the company operates exactly the same as a traditional LLC.
There are only a few downsides to the operation of a Series LLC, including record keeping and common misconceptions that can cause difficulties for the owners of the LLC. However, the biggest downside to the Series LLC is the uncertainty associated with the lack of case law covering this topic.
Record Keeping: The legislature created a caveat to the barriers that separate these sub-series from each other and the parent LLC. This protection only exists if the records maintained for a particular sub-series account for the assets associated with that sub-series separately from the other assets of the LLC or any other sub-series. It should not be difficult to comply with this caveat, but you may have to prove compliance every time a sub-series is sued. Proving compliance will likely require a hearing along with the disclosure of financials.
Misconceptions: Another hurdle to the Series LLC is that it is not very well understood by title companies and associated people that deal with title insurance and other related issues. For example, title companies typically require a certificate of good standing for an LLC, whether traditional or series, and can be very strict about this. This should not be a problem, but if a title company demands a certificate of good standing for specific sub-series, it reflects the misunderstanding of the law and the series concept. Since sub-series are created privately, without necessity for public notice or state filing, no official method exists for establishing that a sub-series is in good standing.
Uncertain Legal Future: The biggest concern is a lack of case law that would solidify the specifics of this new type of LLC. The uncertainties that could cloud the future of the Series LLC include treatment of Series LLCs in bankruptcy, scrutiny by states that do no recognize Series LLCs, and the general concept of the lack of litigation to test a) the strength of its liability protections and b) the legal ramifications of the relationships of the series to each other and to the parent LLC. As more litigation occurs to clarify these issues, we will have more and more confidence in the specifics of the Series LLC as the Legislature has intended. Until then, we will continue to monitor and will use the requirements and recommendations below to protect and inform our clients.
There are a number of requirements that the BOC puts forward in order to establish and maintain a Series LLC, including the specific language in the documentation of the Series LLC and the record keeping.
Documentation: To establish a Series LLC, BOC Sec. 101.604 requires that specific wording be included in the Certificate of Formation. The filing of the Certificate of Formation is an excellent opportunity to put the public on notice that the company has a serious asset protection plan in place. Another way to put the public on notice of the sub-series of the LLC is to file an Assumed Name Certificate with the county or counties that the sub-series will hold assets and/or be doing business in.
Record Keeping: Sub-series insulation is preserved only so long as “records maintained for that particular series account for the assets associated with that series separated from the other assets of the company or any other series.” BOC Sec. 101.601(b)(1). In other words, records must be maintained “in a manner so that the assets of the series can be reasonably identified by specific listing, category, type, quantity, or computational or allocational formula or procedure.” BOC Sec. 101.603(b). Implicit in the statute is the idea that assets and liabilities of a sub-series can and should be separate both from the assets and liabilities of other sub-series and those of the company at large. Commingling among these categories should be avoided at all costs.
As there are two main requirements that the BOC puts forward to establish and maintain a Series LLC, there are also additional actions you can take to protect your LLC even further. These are a few of our recommendations that we encourage our clients to do to increase their liability protections.
Number of Assets: The BOC permits an infinite number of series to be associated with each parent LLC, but we recommend that even a Series LLC should have some limit on the number of properties it owns. When an investor has filled Series A through Series Z, or over 20 sub-series in total, it is well past time to consider forming another holding entity.
Bank Accounts: It is not necessary to establish a bank account for each sub-series in order to comply with the record keeping requirement of the BOC, but a real estate investor may decide to take this step if the properties held by each series are significantly and substantively different enough, either operationally or in terms of tax treatment.
Different Businesses in Different LLCs: An investor should think carefully before mixing and matching entirely different businesses within the same company. Generally, one should not place an asset or enterprise in one sub-series that has significantly different liability potential, debt levels, or tax implications. If there are discrepancies in these areas, these assets and/or businesses should be placed in different LLCs or entities.
With all of the benefits offered by a Series LLC structure, investors who are looking to form an LLC should ask themselves, “Why not a Series?” since there are no significant additional up-front costs and one can delay implementation or activation of the sub-series until an appropriate time. Until sub-series are created or made operational, the company behaves exactly the same as a traditional LLC.
Matthew Loeffelholz is a licensed attorney in the State of Texas and is the head of the Business Enterprise and Intellectual Property Section of Rattikin & Rattikin, L.L.P. He has years of experience working with entrepreneurs in their business legal needs. Matt has practiced in real estate, energy, corporate, and business law with extensive experience in the entire legal transactional law sector.