Is My LLC in Danger of Being Suspended?

By: Tamara Pow

I was recently training a new attorney at my law firm. We were discussing some of the things to look for when reviewing a commercial real estate lease or any business contract where one or more of the parties is an entity. I reminded him to start with the basics – always check the name of the landlord and the name of the tenant to make sure they are correct, and go online to the California Secretary of State website to confirm that both companies are active (not suspended or canceled). If the entity is from another state, also check the website for the Secretary of State in its state of formation. This is important for several reasons, and provides us with additional information for our client. On occasion we discover that one of the parties is not an active business entity, or is not registered in California, or the LLC name is not accurate, which gives us information about the professionalism of the other party and provides us with valuable information to assist our client.

A California limited liability company (“LLC”) can be suspended by either the California Secretary of State or the Franchise Tax Board. The Secretary of State could suspend and eventually cancel the entity for failure to file necessary forms such as the biennial Statement of Information. The Franchise Tax Board can suspend (or for a foreign LLC, forfeit) an LLC for failure to pay California taxes, penalties, interest or fees, or failure to file a tax return. So, if you are not current with your Statement of Information filings, or you have not paid or filed franchise taxes for the LLC (different than your personal income taxes), your LLC is in danger of being suspended or even cancelled.

Here are some of the issues a suspended or forfeited LLC faces:

  1. The LLC cannot legally transact business in California.
  2. The LLC cannot enforce contracts or defend a lawsuit.
  3. The LLC has limited tax rights regarding filing extensions, requesting refunds, filing amended returns or appeals and protests.
  4. The LLC will not be able to transfer title to real property.
  5. The LLC can lose its rights to its name – someone else can form an LLC using that name despite the existence of your suspended LLC of the same name.

Suspension does not happen quickly. The LLC’s member or manager should receive two notices before the suspension or forfeiture takes place assuming the address on file for the LLC is up to date, which may not be the case if the LLC has not filed a Statement of Information recently. In order to avoid the suspension, the LLC will need to file all tax returns and pay all amounts due, and file any required Secretary of State forms.

Tamara B. Pow is a founding partner at Strategy Law, LLP in downtown San Jose, California. She has been practicing LLC, partnership and real estate law in the Silicon Valley for 20 years. Tamara has seen firsthand the complications that arise in real estate and business deals when an entity is suspended by the Secretary of State, and understands that it costs a lot more to fix the problem than to prevent it.

The information appearing in this blog does not constitute legal advice or opinion. Such advice and opinions are provided by the firm only upon engagement with respect to specific factual situations. Specific questions relating to this article should be addressed directly to Strategy Law, LLP.

Don’t Form an LLC to do Business in California Without First Understanding California LLC Taxes

By: Tamara Pow

Before you form a limited liability company to do business in California, make sure you understand the California LLC taxes. Both limited liability companies (“LLCs”) formed in California, and LLCs formed in a state other than California that are doing business in California, must pay two types of tax to California for the privilege of doing business in our great state. First, like corporations, limited partnerships (“LPs”) and limited liability partnerships (“LLPs”), an LLC must pay an $800 annual franchise tax for each tax year (or portion thereof). Second, if the LLC has $250,000 or more of total gross income from all sources derived from or attributable to California in any one year, it must pay an additional fee known as the LLC Gross Receipts Fee. Total income for calculation of the Gross Receipt Fee does not include an allocation of gain or a distribution made from another LLC in which this LLC is a member. This means that if you have an LLC that has one or more LLCs as its members, the fee is paid based on total income from this LLC only, and the income is distributed or allocated to one of the member LLCs. The fee is in addition to the $800 franchise fee and is calculated on a step basis. If your LLC’s gross receipts are $250,000 or more but less than $500,000, the fee is $900. If your LLC’s gross receipts are $500,000 or more but less than $1,000,000 the gross receipts fee is $2,500. If they are $1,000,000 or more but less than $5,000,000 the gross receipts fee is $6,000. If your LLC’s gross receipts are $5,000,000 or more, the gross receipts fee is $11,790.

Deductibility: The $800 franchise fee is not deductible on the LLC’s California tax return. The gross receipts fee is deductible for California income tax purposes.

Note for commercial landlords: Commercial landlords should take note that both of these fees have been analyzed by the California Court of Appeals and have been determined to be costs to limit the personal liability of the business owner. As a result, depending on the language of the form lease you are using, a landlord may not be able to pass the costs on to tenants as part of operating expenses.

Due Dates : The $800 annual franchise fee is due on or before the 15 th day of the 4 th month of the taxable year. For an LLC formed in January, the due date would be April 15 th . For an LLC formed in February (regardless of which day in February), the due date would be May 15 th , and so on. The gross receipts fee is due on or before the 15 th day of the sixth month of the year – meaning that the LLC must estimate its expected gross receipts for the year and pay the tax accordingly. An underpayment penalty of 10% will be added to the fee if the amount paid is insufficient, unless the estimated fee is equal to or greater than the fee paid in the prior taxable year. (See California Revenue & Tax Code Section 17942(d)(1)-(2).)

Although these fees can be significant, depending on the profit margins of the business of the LLC, they could be much higher or much lower than the 1.5% of net income that California S corporations pay. Generally, businesses with large profit margins will prefer to pay the LLC fee based on revenue, whereas those with small margins (a lot of revenue but not much income) will prefer to pay tax based on net income. Of course, this comparison is only one item to take into account in determining the right choice of entity for your business. An experienced business attorney can assist you in analyzing all of the tax and non-tax considerations in deciding whether the LLC is the right form of entity for you.

Tamara B. Pow is a founding partner at Strategy Law, LLP in San Jose, California. She has been practicing LLC, partnership and real estate law in California for 20 years. Tamara uses her MBA, California real estate broker’s license and experience in public accounting, to advise business entities such as LLCs on the importance of tax planning before forming a business entity.

The information appearing in this blog does not constitute legal advice or opinion. Such advice and opinions are provided by the firm only upon engagement with respect to specific factual situations. Specific questions relating to this article should be addressed directly to Strategy Law, LLP.

Beware of Taxes as a Result of Your Contribution to an LLC – Considerations for LLCs Taxed as a Corporation

By: Tamara Pow

In my last blog I discussed the tax considerations members of a limited liability company (“LLC”) may face when they make contributions to an LLC that is taxed as a partnership. This blog explores the tax consequences for members making contributions to LLCs that are taxed as corporations. For a limited liability company (“LLC”) taxed as a corporation, the general rule is that members do not recognize any tax gain or loss on their contributions of cash or property to the LLC in exchange for a membership interest so long as the contributing members end up owning at least 80% of the LLC membership interests after the contribution (IRC Section 351).

Contribution of Property

However, if a member contributes property with liabilities and the LLC assumes the liabilities, the member will have taxable income to the extent she is relieved of those liabilities and the amount of the liabilities exceeds her tax basis in her LLC interest. This tax result may be avoided by having the member contribute a valid and unconditional promissory note to the LLC that does not exceed the basis of the assets transferred to the company. This solution is not available to LLCs taxed as partnerships.

Contribution of Services

If a member contributes services to an LLC taxed as a corporation, the member will recognize ordinary income equal to the value of the LLC membership interest received in exchange for the services, unless the interest is not freely transferable and is subject to a substantial risk of forfeiture. A member contributing services to an LLC taxed as a corporation should get the advice of a good tax accountant to determine whether the membership interest is immediately taxable and if such treatment can be avoided or reduced by the filing of a Section 83(b) election.

Contribution of Cash

If all the members are contributing cash to an LLC, taxes on contributions are not a concern. Likewise, if all the members are contributing property to the LLC free and clear of liabilities, and will collectively own 80% or more of the LLC after the contributions, taxes on contributions are not a concern.

However, if members are contributing services, or properties subject to liabilities, be sure to check with your tax advisor prior to finalizing the structure and language of your operating agreement.

Tamara B. Pow is a founding partner at Strategy Law, LLP in downtown San Jose, California. She has been practicing LLC, partnership and real estate law in California for 20 years. As an LLC attorney with an MBA, a California real estate broker’s license and experience in public accounting, I cannot overemphasize the importance of tax planning and consulting with a lawyer or CPA who is knowledgeable about member contributions to LLCs before the contribution is made.

The information appearing in this blog does not constitute legal advice or opinion. Such advice and opinions are provided by the firm only upon engagement with respect to specific factual situations. Specific questions relating to this article should be addressed directly to Strategy Law, LLP.