Parent LLC (California Franchise Tax)
Rental Property Investor · SAN FRANCISCO, CA · Member since 2017 · 6 posts · 9 votes
Hello Everyone,
A partner(@Alex Royster) and I are currently educating ourselves on the RE investing business and hope to soon buy our first rental property. We are looking to invest in the Charlotte area where my partner lives and eventually brach out to other states as well. We plan to start a serious RE business and are looking to start out by creating an LLC.
Currently I live in California and know that we are subject to the $800 franchise tax even if we create an LLC outside of California.
If we were to create a parent LLC (for example in Nevada) and use that parent LLC to own other LLCs in the individual states we have rental properties would we be subject to that franchise tax once(for the Nevada LLC), or for every LLC even under the parent LLC?
I know we should speak to a RE attorney about this matter but I am just curious if anyone has experience with this.
All advise is appreciated!
Thank you
Confirming what @Avi Garg said, after a conversation with both the Business Entity dept under the CA Secretary of State and the CA Franchise Tax Board (FTB). Here's what I was told:
1) Parent and its child LLCs would ALL need to be registered in state of CA - that's the $800 fee, form to file is the LLC-5. So that's 3x$800 in my case
2) However, only the parent LLC needs to file a CA return. The income from the child LLCs can be reported on the return for the parent LLC on a Schedule-7, no need to file individual business returns for the child LLCs
For context, my specific situation is the following (and what I described to the agent to get the above answer): I am a CA resident, so I'm doing business in state by virtue of living here and then being in control of / making decisions pertaining to businesses registered in other states. I have one parent LLC in NJ. I then have two child LLCs - one of those child LLCs is in NJ - it's owned by my parent LLC and someone else's LLC as a partnership. The other child LLC is in OH, a single member disregarded entity since owned fully by my parent LLC.
I have talked to some clients about using this structure, however, instead of a Nevada, LLC, I would use a California LLC as the Parent/holding company. So, the California LLC owns your NC LLC(s) -- no need for an additional LLC in the middle. Unfortunately, there isn't any clear guidance in this area from the California FTB and I haven't been able to find any specific authority that allows it or disallows it. Accordingly, based on logic, it appears that you may be able to utilize one California LLC to own/operate one or more out-of-state LLCs, and you would only need to pay one CA franchise tax fee. Like I said, this is not certain and an FTB agent may not allow it. Yet, on the same token, since there isn't any guidance from the FTB, you may be able to convince an FTB agent that your structure is within the bounds of the regulations. This is how tax attorneys utilize the tax code for their clients and then defend the position with law and facts.
This response neither constitutes legal or tax advice nor establishes an attorney-client relationship. Inquirers must seek the advice of their own legal counsel prior to undertaking any course of action related to this inquiry.
@Avi Garg Were you told by an accountant, attorney, FTB agent? I would like to get more information on this topic if someone has it. thanks
@Naseer Khan I was told by an accountant but double check yourself
You're kind of stuck. have you considered utilizing a trust held by the parent LLC. Or registering the same LLC as doing business? I'm personally a fan of the parent method.
CA is very very aggressive. Are you going to be active or just a money partner?
The problem is a lack of guidance from CA. I have seen many successful with the parent strategy that Naseer describes.
Confirming what @Avi Garg said, after a conversation with both the Business Entity dept under the CA Secretary of State and the CA Franchise Tax Board (FTB). Here's what I was told:
1) Parent and its child LLCs would ALL need to be registered in state of CA - that's the $800 fee, form to file is the LLC-5. So that's 3x$800 in my case
2) However, only the parent LLC needs to file a CA return. The income from the child LLCs can be reported on the return for the parent LLC on a Schedule-7, no need to file individual business returns for the child LLCs
For context, my specific situation is the following (and what I described to the agent to get the above answer): I am a CA resident, so I'm doing business in state by virtue of living here and then being in control of / making decisions pertaining to businesses registered in other states. I have one parent LLC in NJ. I then have two child LLCs - one of those child LLCs is in NJ - it's owned by my parent LLC and someone else's LLC as a partnership. The other child LLC is in OH, a single member disregarded entity since owned fully by my parent LLC.
I am just getting started in REI and trying to structure my LLC's in the way that makes the most sense (financially and legally speaking). I planned to register the parent LLC in CA, as this is where I live, and any future child LLC's in the state where the rental properties will be, in this case likely MO. If $800 per anum is needed for each LLC held in CA and MO...then does it make more sense to have the CA LLC own the properties outright? Or is it better to have a parent CA LLC and one child LLC in MO only...in which case the MO LLC owns all properties and the minimum fee per anum is the $800 x 2? $800/LLC seems like a ludicrous amount if one ends up owning 5-10 out of state properties, all under their own LLC's.
@Nicholle Henley I'm of course not an attorney and I'm sure you'll consult one, but my two cents: makes sense for parent to be in CA since you live there and will have to report anyway. I think creating the additional child LLCs in the home states as you buy property is smart to keep the assets isolated from each other... it's my understanding that someone suing the child LLC may be able to go up to the parent, but can't go back "down" to the assets in the other child LLCs
I know a few people have mentioned this in the thread already, but each child series within a Series LLC would still be regarded an entity doing business and the franchise tax would be attached to it. The only strategy I see investors using successfully to work around the CA franchise tax is to utilize a Delaware Statutory Trust, which is considered a disregarded entity. Investors who include the DST in their strategy, whether they or their investments are based in CA, do not have to pay the tax thanks to the status of the Trust. This article explains more of the tax benefits for the DST in California.
The downside of the DST is that it is harder to create and will often cost more than establishing a Series LLC. However, for those investing out of California, it generally pays for itself within 2-3 years (if not earlier) depending on how many assets the investors have.
Just another option I see many CA investors moving toward, since the franchise tax is so abysmal in that state. Best of luck to you and your partners as you all move forward!
Thank you @Whitney Hill and @Scott Smith for your input. I would expect this is an issue for anyone in California trying to set up the series LLC for asset protection.
In regards to the DST. It's more expensive and harder...does one need a lawyer to set up the DST? The LLC set up seems relatively simple (done online, etc). I am new to REI. I want to set everything up correctly, legally speaking, but is this prohibitively expensive for a newbie? Another thread I found my way to seemed to suggest the DST is better for larger companies with large operating budgets. Is this cost effective for someone starting off with 2-3 duplexes-quadplexes per year?
Really appreciate your input! Just trying to find the right ducks to put in a row...
California is a sort of beastly state when it comes to taxes and filings. Even if you create a non-CA LLC, if you are managing the business from California, you will be deemed to be "doing business" in California and therefore subject to CA taxes. California charges a minimum tax of $800 a year per LLC, and more if you have gross receipts in excess of $250k. So, if you create an LLC in another state, you will need to register it as a foreign LLC in California. Though, this process will be the same for the other state (if you created a CA LLC you will need to register it as a foreign LLC in the state in which you are doing business/holding property). This means that you will need to pay registration and filing fees in at least 2 states if you don't buy CA property. And, yes, even for the "child" LLC, the $800 is applicable.
Be sure to tell your accountant that you now need to file non-resident income tax returns in each state where you own property as well. Most likely the state where the property is located is where lawsuits would be brought if they are something for personal injury like a trip and fall or something of that nature because the “cause of action” arose in that state.
California tends to have more laws on the books and requirements and restrictions that it can be a good idea to form a CA LLC for out of state property so that you as a CA resident are covered, and to try to have your contracts fall under the purview of CA courts. It also is helpful to have a California LLC in case you ever sell that property and move into another state so that you do not need to form a new LLC altogether with new operating agreement, just re-register in the new state as a new foreign LLC. But, that is not always the right answer and you should speak with someone familiar with your personal situation to get advice specific to you.
*This post is informational only and is not to be relied upon. Readers are advised to seek professional advice. This post does not create an attorney-client or CPA-client relationship.
I would expect this is an issue for anyone in California trying to set up the series LLC for asset protection.
In regards to the DST. It's more expensive and harder...does one need a lawyer to set up the DST? The LLC set up seems relatively simple (done online, etc). I am new to REI. I want to set everything up correctly, legally speaking, but is this prohibitively expensive for a newbie? Another thread I found my way to seemed to suggest the DST is better for larger companies with large operating budgets. Is this cost effective for someone starting off with 2-3 duplexes-quadplexes per year?
Really appreciate your input! Just trying to find the right ducks to put in a row...
The DST strategy is less popular, so there are many less people offering it as a service. The initial setup will cost more to establish, the protection is on par with the Series LLC, and you will end up saving money in the long run. For new investors it may nor be worth the up front costs, but it is an option I feel all CA investors should know about. Even if you aren't comfortable setting up the DST now, as you grow you will definitely want to try incorporate it into your asset protection plan in the future as you grow. Some investors who are just starting have significant personal asset to protect, others start from scratch. Ultimately you want to set up a strategy that fits your personal needs and will grow with you in the future.