7 questions about holding companies and LLCs

October 8, 2021 12:07 PM

Business owners who already operate one or more limited liability companies or who are thinking about starting multiple businesses may ask about holding companies. In working with entrepreneurs across the U.S, my business filings company has found that various situations and factors influence how business owners structure their companies and whether they decide to pursue setting up a holding company.

Below, I share answers to some real-world questions that entrepreneurs have asked about holding companies and LLCs. For professional legal and tax guidance, business owners should enlist the help of their attorneys and tax professionals. It’s critical to get expert advice when weighing the pros and cons of the available options before deciding on business entities and how to structure them.

Choosing the right business entity types and structuring multiple businesses requires research and reliable information. When working with clients, make sure you advise them only on matters legally allowed per your certifications, licenses and qualifications. If they need guidance that’s beyond what you and your practice may offer, refer them to trusted professionals in the appropriate specialty areas so they get the insight they need to make informed decisions.

1. What is a holding company?

A holding company is a business entity that owns the assets of other companies (subsidiaries). Often, holding companies are established (usually as passive owners) because structuring multiple businesses in that way provides optimal tax outcomes.

Typically, a holding company doesn’t directly make or sell products or services, but it owns subsidiary companies that create or sell products and services. Even though a holding company has ownership and may oversee some management decisions of its subsidiaries, it typically does not participate in running day-to-day operations.

2. Can a holding company be an LLC with two members?

Yes, a holding company can be an LLC with two members. In this situation, the holding company may not hold ownership interests or shares of an S corporation.

3. Can the holding company own several operating LLCs, with some taxed as partnerships and some as S corps?

Understand that S corporations are governed by federal regulations (S corp status is a federal tax election and not a statutory entity type), while state regulations govern LLCs. Therefore, LLCs formed in different states may have slightly different regulations. Below, I’ve listed three different scenarios and how they typically work:

Holding company taxed as a single-member LLC (disregarded entity). Generally, it may own other single-member LLCs, multimember LLCs, and S corporations (if the member meets the IRS eligibility requirements to be an S Corporation shareholder).
Holding company taxed as a multi-member LLC. Generally, it may own other single-member LLCs and multimember LLCs but not S corporations.
Holding company taxed as an S Corporation. Generally, it may own other single-member LLCs, multi-member LLCs, and qualified Subchapter S subsidiaries (QSubs).

4. How do we change operating LLCs from the ownership of individuals to the holding company LLC?

If the operating LLC is changing just its ownership (not its operations), then it would have to follow the procedures per the LLC operating agreement of the operating LLC. This usually involves creating a buyout or liquidation of the operating LLC to change ownership from the individual(s) to the holding company.

However, in the case of an S corp becoming a qualified Subchapter S subsidiary,

the following occurs per the IRS

, “The QSub election results in a deemed liquidation of the subsidiary into the parent. Following the deemed liquidation, the QSub is not treated as a separate corporation and all of the subsidiary’s assets, liabilities, and items of income, deduction, and credit are treated as those of the parent.”

5. What are the tax implications of having a holding company that owns operating LLCs or S corps?

At the federal level, a consolidated return may be filed. However, the subsidiaries may have to file separate returns at the state level, depending on the state’s rules. For instance, in California, separate state tax returns must be filed for each LLC.

A holding company will be able to offset the losses of subsidiaries with the income of other subsidiaries. The operating LLCs (or S corps) will not be taxed federally because business income and losses flow to the holding company. However, the operating LLCs or S corps may owe taxes based on state regulations at the entity level in addition to the income and loss flowing to the holding company.

7. Can you recommend any resources to turn to for answers?

I recommend the

IRS website

, as it provides extensive information and explanations about federal tax rules and regulations. In my home state of California, the

California Franchise Tax Board

offers helpful information online. I encourage you and your clients to check your state government websites for specific details about business entities, state taxes, business license requirements, and more.