Multiple Business Structures: Their Combinations & Tax Consequences

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Holly Magister, CPA, CFP®

Holly is the founder of Enterprise Transitions, LP where she helps business owners who want to grow their business, plan for its ownership transfer to family members, key employees or to an outside party, or who needs help when it’s time to sell.
Holly founded ExitPromise.com as well as StartupPromise.com and so far has answered more than 3,000 questions asked by business owners about starting, growing and selling a business.

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Entrepreneurs are known for recognizing and pursuing many opportunities in the marketplace simultaneously or in a serial fashion. In fact, such entrepreneurs may be referred to as  serial entrepreneurs.

It is not unusual for a serial entrepreneur to create a multiple business entity structure to hold his or her various business endeavors. Doing so is commonplace and provides certain limitation of legal liability for the serial entrepreneur.

Such business entities may include a Limited Liability Company (LLC), C or S Corporation, and/or Partnership.  Each in its own way  protects the entrepreneur’s personal assets from potential risks such as lawsuits and other claims against the business.  In recent years, the practice of forming layered, multiple business entities has gained increased interest among entrepreneurs desiring to start a new businesses.

Large Businesses Form Multiple Business Entity Structures

Check out the website of your favorite fast food chain and you will see most have multiple business entity structures noted in the fine print.  For a large business, this practice has been commonplace for decades.  It involves layering one form of a business entity either alongside or in conjunction with an operating business. The layered, multiple entity structure strategy would look something like this:

• One entity is established to serve as the ‘operating’ business and holds very few assets on its balance sheet.

• Another related business is established to hold valuable assets such as patents, trade secrets, software, websites, and other intellectual property and serves as a ‘holding’ company.

•  Likewise, real estate needed for operations may be held in a separate entity.

•  In simple terms, the enterprise assets are separated from the potential liabilities in the same business enterprise by placing them in two (or more) separate business entities.  Such multiple business entity layering necessitates careful drafting of legal agreements between the various entities involving  items such as leases, licensing agreements, management agreements, etc.

Tax Consequences of the Multiple Business Entity Structure

While creating multiple business entities may afford the entrepreneur an opportunity to separate liability exposure in his business from his personal assets and the assets of his other business endeavors, certain tax consequences can and will follow.

LLC’s, Partnerships and S Corporations offer pass-through taxation treatment.

The C Corporation is taxed at the entity level as well as the personal level when dividends are paid to the individual shareholders.

All tax consequences should be considered carefully when choosing the form of business entity, regardless of the number of entities formed by the entrepreneur. Layering multiple entity structures may include one of the following entity combinations:

• • • An LLC owning multiple LLC’s
    • Limited Partnership owned by a General Partner (another entity) and Limited Partner(s)
    • Individual S Corporation owned by a Single Member LLC
    • S Corporation owned by a Limited Partnership (with all individual partners)
    • S Corporation owned by an S Corporation with one individual shareholder
    • C Corporation owned by another C Corporation, Trust or LLC

It’s worth noting that each business entity has its own tax consequences at the federal and state level.  When considering the entity structure, whether forming multiple entities operating in tandem or layered multiple entities, it is wise to consult with both legal counsel and a tax advisor familiar with the appropriate state’s corporate and tax laws. Furthermore, care should be given to the decisions related to how assets should be titled and recorded on the multiple business’s accounting records. Asset titling or ownership  issues will be important when one or more of the businesses is ultimately sold.