Holding Company vs. Operating Company
Holding companies and operating companies go hand in hand. A holding company has no operations of its own. It exists solely to own a controlling share of another company or companies, along with other major assets such as office buildings, factories, machinery, intellectual property, investment securities, and other equipment and supplies.
An operating company, on the other hand, conducts all day-to-day business operations such as hiring employees and selling products or services. This is essentially a parent-subsidiary relationship, with the main distinction being that the parent company in this situation does not conduct any business activities. LLCs are an attractive option for this structure since they are easy to set up and offer strong limited liability protection.
Why Form a Holding Company?
Most people who form holding companies are looking to limit risk. Having a separate holding company to own the assets of your operating company keeps those assets safe from lawsuits directed at the business. This is beneficial for those who run higher-risk businesses.
For example, a business that manufactures and sells bicycle helmets may be separated into a holding company and an operating company. The holding company would own the factory, machinery, patents, and a controlling share in an operating company, which would pay to use the factory to produce the helmets and hire employees to sell them. In this situation, if the operating company was sued by a customer who sustained a head injury in a bicycle crash, the holding company’s assets would be protected.
This structure is also beneficial to businesses with a number of different ventures or interests. A food service company, for example, may set up a holding company along with a separate operating company for each restaurant location or business type they run. By doing this, each individual venture is protected against the failure of the others, while the business’s assets are kept safely within the holding company. This is also common among those who own several rental properties or companies looking to try out new product lines without risking the success of their business as a whole.
How Do Taxes Work for Holding Companies?
The specific tax rules for an LLC holding company will depend on how the business is structured. A holding company and its subsidiaries may file separate tax returns or file one consolidated return, depending on the circumstances.
If your holding company’s subsidiary is also an LLC, it will be taxed as a pass-through entity. This means that all of your operating company’s profits will pass to the holding company that owns it. These profits will then be passed to you as the owner and reported as personal income on your tax return. This is the same no matter how many LLC subsidiaries your holding company owns.
Holding Company Pros and Cons
Like most things, there are advantages and disadvantages to forming an LLC holding company. Whether or not this business structure is right for you will depend on the specifics of your business and situation.
- The holding company and its members are protected from lawsuits related to the subsidiary company’s operations (e.g., defective products, damages, injuries).
- The holding company and its members are protected from lawsuits related to the actions of the operating company’s employees.
- Because the holding company owns most of the overall assets of the business, there is less financial risk from debt or creditors related to the operating company.
- The assets of the holding company and the operating company must be kept separate.
- Keeping the holding company separate from the operating company creates additional paperwork and recordkeeping obligations.
- The added complexity of using a holding company formation increases the likelihood of error, putting the business at risk both legally and financially.
The Series LLC
Depending on which state your business operates in, you may have the option of forming a series LLC. This structure is currently only available in nine states. A series LLC essentially allows a business to create a holding company structure without having to create separate LLCs for each subsidiary. This structure is created at the time a business files its articles of organization and allows for the unlimited separation of business interests, assets, and operations into independent series. Despite the single filing, each subsidiary is recognized as its own separate legal entity.
The main advantage of a series LLC is that it offers the same protections and benefits of a multi-LLC holding structure without the need to formally establish separate LLCs. This lowers expenses and lessens the amount of paperwork required. However, each subsidiary under the primary holding company must have its own bank accounts and act as an independent business. Additionally, since this is a relatively new business structure, rules can vary from state to state and some legal grey areas remain.
Is a Holding Company Right for Me?
You’ll want to take a close look at your business’ operations and goals before deciding if a holding company LLC is right for your business. Generally speaking, though, the more complex, segmented, or risky your business is, the more likely it is that you can benefit from a holding company structure.
A holding company LLC will add a layer of complexity and additional expense to your business, but with that comes even more financial and legal liability protection than a standard, single LLC structure provides. While it may not be the ideal formation for everyone, it is worth taking a closer look to see if it is a good fit for your business.