Forming an LLC out of state, living in California

41 Replies

Hi all, Firstly, I would like to ask if anyone has a good real estate attorney reference in California? Second, can someone help me understand costs around forming an LLC out of state while I live in California. I know I should discuss this with an attorney (hence the first question) but I would like to screen it here. Basically, I live in CA but would like to invest out of state (Ohio specifically). I am researching starting an LlC in Ohio where my rental properties will be, buy I had read a prior post that seemed to imply that in this situation, because I live in CA I would still owe the CA $800 LLC tax plus the income tax if the net income is over $250k. Is anyone familiar with this? I was hoping that by operating in Ohio, I could form my LLC in OH and not have to deal with the high CA tax implications.

Yes forming an out of state LLC even though you live in California triggers a California tax. It stinks. Get some advice from an accountant or lawyer, the cost can be pretty high.

Account Closed

That's interesting about California levying the tax on foreign LLCs owned by California residents. I've never heard that before. Do you have citation / links to any statute or case law that supports this or other supporting info on the subject? I was unaware of this and would like to further familiarize myself with the subject.

You can escape the clutches of the CA FTB. No matter where you form the LLC, you have to pay the CA tax (plus in the other state as well).

Following.... I'm in the same boat. Living in CA, but investing in NC. I'm considering converting to an S-Corp rather than an LLC to minimize this tax and reporting burden.

@Timothy Murphy III

https://www.ftb.ca.gov/businesses/bus_structures/LLC_Filing_Requirements.shtml

Foreign entities are subject to the franchise tax if you are considered to be "doing business" in CA. Unfortunately, CA defines "doing business" pretty loosely and as a result, virtually all foreign entities are subject to the franchise tax.

You will have to pay the $800/year regardless. I looked into all this when I bought my properties and there was no way around it...even if the LLC was in another state and the properties were as well. If you are a CA resident, or live and work in CA, they will ping you for it.

I'm interested in this subject as well.  Here is FTB's definition of "doing business":

https://www.ftb.ca.gov/businesses/Section_23101.sh...

If the "tax payer" they refer to is the LLC and the LLC is only conducting business and owning property outside of CA, I don't see how it matters where the member(s) or the manager(s) of that LLC lives.

Think about it like this. If I, as a resident of CA, went in on some sort of LLC syndication deal for a 250 unit property in a different state. My membership share of the LLC is 1% and I'm the only member living in CA. The LLC is organized in the state where the property is located. Would that LLC have to register with the CA FTB and pay the $800 annual LLC tax. I wouldn't think so...

It sure seems like a silly application of the rule to me, but sometimes silly applications become the way things are done. If and when I have a California based client that asks me to set their entities up from scratch, it's an issue that warrants some in depth research. I'd be really curious to know exactly how far this rule reaches, and if there's any way to avoid it?

@John O.'s example may be intentionally contrived to illustrate the absurdity of such a rule in some situations, but he raises an excellent point. I'd also be curious to see what constitutes a "resident" of California, assuming that the tax is applied to all LLCs owned by CA "residents". 

@Ali Boone

@Ali Boone In your comment, you mention that the State of CA will "ping" you for the $800 assessment. Can you expand upon that? How do they know that you have set up an LLC in a foreign state, like OH? I live in CA, but am planning on setting up an LLC in OH with a partner in OH. We are planning on buying multiple MF rentals through that LLC. You are suggesting, in addition to my income tax owed to CA they will apply an $800 a year fee for just having an LLC?

@Matthew Whelan

Yep. I can't say for sure how they would know, but in all my research and talking with professionals, they will do it. Their argument will be that you are a CA resident, and therefore you have to pay the tax. They don't care where the LLC is set up or where the properties are. I would recommend talking to Amanda Han, she's a blog writer on here and a CPA (very investor-savvy). She might be able to expand more on the how's.

Not sure if any of this is directly helpful, but here's a whole heapload of info on having LLCs on rental properties (and read the comments section too because there's a ton of info there as well)-

https://www.biggerpockets.com/renewsblog/2013/08/1...

Hope that helps!

@Matthew Whelan

As a CA resident, when you file your federal and CA state income tax returns which show LLC income from an out of state LLC, you are effectively giving the state of CA notice that you are operating an out of state LLC. If you are the LLC manager, running the LLC from your home, then the LLC is deemed to be "doing business" from the state of CA and subject to the franchise fees.

Am I correct in assuming that to be able to pay your $800 LLC tax you would have to register your foreign LLC with the FTB in CA? Essentially you're only registering for the enjoyment of paying the tax...

If the LLC isn't registered in CA, and does not do business in CA, it should not have to pay the $800 filing fee. If it is a multi-member LLC being treated as a partnership, the CA based partner(s) should receive a CA K-1 that details their share of income. However, if none of the income is from a CA source, most, if not all, of the state tax can be credited to you for CA if paid to the other state (in this case, Ohio). In other words, on your CA return you basically say "hey, I paid the taxes due to the other state, don't tax me" and you can get a credit from CA for what you paid. You might still end up owing a little bit (since you're still a CA resident), but not the whole enchilada.

Hope that helps!

@Matthew Whelan ,

I am not an attorney.  This question should be directed to your attorney and your licensed tax preparer for a definitive answer.

My opinion is that if you are not actively participating in the management or day to day activities of the company, then as a non-managing partner, you should not have to worry about the CA franchise fee. Your income from the LLC will still be subject to CA state income taxes.

Hi Account Closed, I'm an attorney in California. Here is the link you asked about:

http://www.taxes.ca.gov/income_tax/limliacobus.sht...

If you form your LLC in another state but are running your business from California you still pay California taxes. Plus you have to apportion your income to two states and file additional schedules with your taxes.

If you need any help with real estate law, forming your LLC, etc. please feel free to reach out to me here.

Jen

Originally posted by @Jenifer Levini :

Hi Account Closed, I'm an attorney in California. Here is the link you asked about:

http://www.taxes.ca.gov/income_tax/limliacobus.sht...

If you form your LLC in another state but are running your business from California you still pay California taxes. Plus you have to apportion your income to two states and file additional schedules with your taxes.

If you need any help with real estate law, forming your LLC, etc. please feel free to reach out to me here.

Jen

Jen- You mention if you are "running your business from California...." What if I am the manager of the out of state LLC but have an active property manager doing everything in the other state? If that still triggers the need to file with CA then maybe people need to have an out of state manager of their LLC to avoid this crazy filing!? It just makes little sense to me that passive investors have to register their foreign LLCs here and presumably file one more tax return. What a state....

Hi @John P. , You are asking a very specific question about the specific activities you are doing in the two states which you are involved. If you would like a lawyer to do the legal research into the statutes and case law to find the precedents, to be able to answer this question, you can retain me or another lawyer for our hourly rate.

On the link at the State of California website on LLC taxes, I gave you above, it gives an example of when the taxes must be paid. A fuller explanation is here: https://www.ftb.ca.gov/forms/misc/1050.pdf

California is one of the most tax heavy states. It's possible to fight, and win against the taxes in certain cases. Yours might be one of them. You'll need a lawyer to assess the specifics to give you an opinion on your likelihood of success or whether your activities are are de minimis. 

Originally posted by @Jenifer Levini :

Hi Account Closed, I'm an attorney in California. Here is the link you asked about:

http://www.taxes.ca.gov/income_tax/limliacobus.sht...

If you form your LLC in another state but are running your business from California you still pay California taxes. Plus you have to apportion your income to two states and file additional schedules with your taxes.

If you need any help with real estate law, forming your LLC, etc. please feel free to reach out to me here.

Jen

 Are you suggesting that in addition to paying the 800 dollar fee for Ca, and the XX dollar fee from the other state, you also have to pay income taxes in both states?

A very prominent asset protection attorney in CA, Clint Coons, has several youtube videos out that show one can create several LLC's here in California if there are multiple properties, but in order to save the $800 annual filing for each properyt, one could have them owned by a WY or DE LLC (no fee;s) and then just have ONE California Managing LLC that reports the income (either as S corp or flow through to personal 1040).

This would save thousands per year for people who own many high net properties and allow them to isolate them in individual LLC's without the expensive burden on $800 each. He claims the KEY is to have the ONE managing LLC in CA (and pay the annual fee) but have the protection of each property in it's own LLC and pass through DE or WY to discourage lawsuits and increase anonymity. Thoughts?