[ESTABLISHING A BUSINESS ENTITY IN THE UNITED STATES] 524
for all state level taxes paid. In response to this limitation, an increasing number of states have passed legislation that allows tax partnerships (and other pass-through entities, including S- corporations) to elect to pay tax at the entity level rather than passing on the full liability to the owners, with a state tax credit to the individual owners for taxes paid by the partnership. The partnership, which is not subject to the limitation on state and local tax deductions, can claim a business expense deduction, and the individual owners can claim deductions for up to $10,000 for other state taxes paid, such as property taxes. However, in the international context pass- through taxation is often a distinct problem because non-United States partners will be required to file United States tax returns and pay taxes to the United States. To provide for the collection of this tax, the partnership may be required to pay withholding tax on income of the partnership allocable to a foreign partner if such income is effectively connected with a U.S. trade or business. Amounts withheld can be claimed as a credit against a foreign partner’s U.S. income tax liability. In addition, foreign corporations that invest in a partnership may be subject to a 30% branch profits tax on their accumulated earnings and profits effectively connected to a U.S. trade or business carried on by the partnership. For this reason, non-United States investors in partnerships (as well as LLCs, discussed below) often hold their interests through “blocker” companies formed in U.S. domestic or offshore jurisdictions. This permits these investors to obtain the benefits of pass-through taxation without subjecting the foreign investor to United States filing, tax and audit requirements that may reach all of their worldwide activities. 1.5 The Limited Liability Company (“LLC”) The LLC is a relatively new and increasingly popular choice of business entity. Nowadays, a
substantial majority of new entities formed in Delaware are LLCs. Members of the LLC benefit from limited liability, pass-through taxation, and a highly customizable management framework. Nevertheless, because LLCs are relatively new (having first been introduced in 1993), the case law is still not quite as developed as it is for corporations, although that is rapidly changing given the popularity of LLCs. Moreover, LLCs usually lack access to capital markets that public corporations enjoy, and while some LLCs have been brought public there remains a clear preference in the investment community for corporations as the IPO vehicle. Governance : The owners of an LLC are called “members.” Members may manage the LLC themselves or set up a wide variety of management frameworks using the LLC agreement, including a board of “managers” that functions much the same as a board of directors in a corporation. LLCs also may, but are not required to, name officers. LLCs are creatures of contract, and state laws typically give wide discretion to LLC agreement governance. In Delaware, for example, the LLC agreement will control over nearly any default statutory management rule. In the absence of any provision in the LLC agreement, corporate style fiduciary duties will apply. The LLC agreement can eliminate, limit, or expand those duties but cannot eliminate the implied covenant of good faith and fair dealing. Like partnerships, LLC agreements can become very complex and will occasionally result in gridlock between members. Unlike partnerships, LLCs can also be wholly owned by one member (a natural person or another entity) who exercises complete control of the LLC. Since 1996, Delaware has permitted “series LLCs,” which allows an LLC to be subdivided into separate series of "members, managers, [or] limited liability company interests..." with
ILN Corporate Group – Establishing a Business Entity Series
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