I was talking to someone the other day who said he runs a certain kind of business that requires him to operate 18 (!!) separate LLCs. I asked him point blank: "Why aren't you just running it as a series LLC?" He had no idea what I was talking about.
Unfortunately, that's normal. People often have no idea what a series LLC is or what it can do for a business. I would bet most lawyers don't know what it is. That begs the question: why does almost no one know about series LLCs?
What is a Series LLC?
Series LLCs have been around since the turn of the century. First allowed by Delaware, Series LLCs have gained recognition as legal business entities in many states, including Texas (in 2009) and Oklahoma (in 2005). The regular LLC format is quite a bit older than the series LLCs, so maybe that explains it.
Series LLCs are very similar to regular ones, with some major differences. Series LLCs are allowed to have "cells," which are designated entities formed around the Series LLC parent entity. The cells, once formed and given their own operating agreements, hold designated property. If the formation and operation of each cell adheres strictly to the statute, the property held in these cells should get ultra-limited liability protection.
Common Uses for Series LLCs
Series LLCs are most commonly used to hold residential and commercial real estate, albeit the trend is definitely more heavily residential. Many people who purchase and flip houses use series LLCs to avoid subjecting the whole company to lawsuits for renovations and resales of residential homes. Imagine shutting your whole company down due to an issue with one house when you've done 10 or more flips. Series LLC can prevent that.
Other uses for series LLCs include entering into valuable contracts, entering into employment agreements, operating retirement plans (such as a 401(k) plan), and holding valuable equipment and other types of personal property. I've even read recommendations that you could simply silo each department of a company and then further silo all contracts and property within each department.
Below is a summary of the major things to know about this entity.
Cost savings compared to regular LLCs. In Texas at least, it costs $300 to form an LLC. If you form 18 separate LLCs like our friend above, you're out $5,400 before you've even made money. An assumed name filing (see below for why they're required for Series LLCs) costs $25 in Texas. If you had one parent series LLC and 18 cells, you would have spent $750 total to structure your business.
In Oklahoma, it costs $100 to form an LLC and $25 to file for a trade name. So what would have been $1,800 for 18 regular LLCs in the above scenario now costs only $550 for a series LLC.
Hub-and-spoke format. You don't need 18 separate entities or an intricate web of subsidiary LLCs because the series LLC allows you to create new cells at will without state agency approval. If you drew it out, the cells would be placed around the parent entity in a hub-and-spoke format.
Assumed name filings: required in Texas and recommended in Oklahoma. Texas law requires that each individual cell in a series LLC register its assumed name (also known as a "trade name" in Oklahoma) with the Secretary of State and the county in which the cell will operate. A common example of the names each cell takes on: "ABC, LLC - Series A or ABC, LLC - Series One (and so on for each new cell). Filing assumed name certificates are a statutory requirement in Texas. Failure to file assumed names for each cell removes the protection given to a series LLC.
One possible reason for this requirement could be that state legislators wanted to avoid series LLCs from operating shadow companies and misleading potential business partners by entering into a slightly different name than the parent entity. That's just speculation though. The other reason is revenue generation, since assumed named filings are required and get paid to the Secretary of State and the particular county of operation.
Oklahoma law states that an entity operating under a name other than the given name of a business must file for a trade name (same as an assumed name filing in Texas). However, Oklahoma law is not nearly as explicit as Texas law on the matter. Many simply don't file a trade name for each cell in Oklahoma. In our experience, though, if the cells go by different names than the parent entity (and they have to), then a trade name should be filed. As a best practice, that may prevent a potential plaintiff from making the argument that a series LLC operator misled parties to contracts by not registering the name (but that's also just speculation).
No ownership limitations. The series LLC can be single-member or multi-member, member-managed or manager-managed. Each cell can be owned by anyone or any entity designated by the company's authorized members or managers. Ownership never needs to be the same across all cells.
Strict separate books and records requirement. Series LLC owners and managing members must adhere to all statutory bookkeeping and records requirement. This means each individual cell in the series needs separate bank accounts, credit cards, checkbooks, and a company or operating agreement. Ultimately, it means that you need to account for the property designated under each particular cell, allocating income and expense to each cell.
In our experience, most people don't properly maintain the books and records, which is a mistake. You need to strictly adhere to this requirement. If you haven't been adhering to it, you need to make corrections to reflect how your business should have been operating. Otherwise, you risk destroying the protection afforded to series LLCs.
Enter into contracts under the cell and protect the rest of the entity's property. If formed correctly, the cells in the series LLC are allowed to enter into contracts under their assumed name (e.g., XYZ, LLC - Series A). If the contract is drafted and signed properly, then the cell itself and any of its assets is then treated as a completely separate entity from the rest of the cells in the series.
This means each cell can sue and be sued in its own name. It also means that if a lawsuit ends in judgment against the cell, the judgment is exclusively against that particular cell and the judgment amount cannot be taken from property or cash held by other cells.
Kill off a cell and preserve the rest of the business. Probably most interesting of all, series LLCs would (or should) be allowed to file bankruptcy in their own name, while leaving the rest of the cells in the series out of the reach of a bankruptcy trustee and bankruptcy courts.
Virtually no case law on series LLC liability. The reason we use the word "should" above reflects one distinct issue with series LLCs: there is virtually no case law on the subject of civil liability or bankruptcy for series LLCs. In defending lawsuits on those matters, series LLCs would rely on the statutes governing them and relevant other case law. Based on our research, there are very few relevant cases deciding an issue of series LLC liability.
Some Other Thoughts on Series LLCs
Some believe that series LLCs are really best used for real estate holdings and that regular LLCs serve the needs of other companies well enough. True, the most common use is for real estate holdings and flipping houses.
Respectfully, though, real estate holdings are not the only use. There are no laws restricting series LLCs exclusively to holding real estate. More importantly, series LLCs are flexible. You can form a series LLC, run it under the parent name for now, and then form the cells once you're ready. In some cases, we've read opinions where a series LLC could be used for equipment purchases and leasing, employment agreements and retirement plans, and other non-standard business uses.
On the other hand, regular LLCs will still make sense for a lot of business owners. People are more familiar with regular LLCs and sometimes aren't as concerned with siloing every aspect of their business. The process of running a series LLC can get extremely complex, especially when property held in each cell is not properly designated and accounted for. Fixing accounting issues can be a nightmare.
Final Point: Flexibility is the Greatest Benefit of All
By now, you may be thinking, "Why on earth would you form a normal LLC?" That's the real point of this article. Knowing all of the above information, does it make more sense for sophisticated business people and entrepreneurs to form a series LLC rather than a regular one?
The person mentioned above who was running 18 separate LLCs said the following when I explained all of this to him: "It sounds too good to be true."
It's not too good to be true. State law allows it. Texas, Oklahoma, and Delaware allow it. You can convert your LLC to a series LLC whenever you want.