SERIES LLC UPDATE: ADVANTAGES, DISADVANTAGES & PRACTICAL CONSIDERATIONS

Transcription

1 SERIES LLC UPDATE: ADVANTAGES, DISADVANTAGES & PRACTICAL CONSIDERATIONS Alson R. Martin Lathrop & Gage LLP Mastin Boulevard Suite 1000 Overland Park, KS (o) (913)

2 Copyright 2015 Alson R. Martin. All Rights Reserved.

3 SERIES LLC UPDATE: ADVANTAGES, DISADVANTAGES & PRACTICAL CONSIDERATIONS TABLE OF CONTENTS I. WHAT IS A SERIES LLC?... 1 A. Definitions... 1 i Page B. U.S. Series LLC States/Jurisdictions With Limited Liability Internal Shield For Each Series... 1 C. U.S. Series LLC States/Jurisdictions Without Limited Liability For Each Series... 2 D. Number Of State Filings... 2 II. SIMILAR ENTITIES OR STRUCTURES... 2 A. Mutual Funds As Series Corporations Or Trusts... 2 B. Single LLC With Special Or Schedular Allocations... 2 C. Multiple LLCs For Each Property Or Activity With Same Or Overlapping Owners... 3 D. Parent-Subsidiary Entities... 3 E. Series Statutory/Business Trusts... 3 F. Protected Cell Companies ( PCC )... 3 G. Series Captive Insurance Company... 4 III. USES FOR SERIES LLCs... 4 A. Real Estate Development Or Investment in Multiple Properties With Each Property in Separate Series... 4 B. Separating Operating Company Divisions, such a multiple products or manufacturing, distribution, and sales... 4 C. Franchised Businesses With Multiple Locations... 4 D. Ownership Or Leasing Of Multiple Watercraft or Aircraft... 4 IV. FORMATION... 4 A. Delaware... 4 B. LLC Articles (Certificate of Formation) - Series Provision... 5 C. Registration of Series... 6 D. Form of Agreement Establishing Series... 6 E. Sample Delaware Series LLC Operating Agreement Language... 8

4 TABLE OF CONTENTS (continued) Page F. Series As Separate Entity V. TAX TREATMENT A. Federal Income Tax B. State Tax Treatment VI. DRAFTING & OTHER PRACTICAL ISSUES A. Ownership B. Effectiveness Of Series Liability Shield In Non-Series States C. Registration of Foreign Series LLC D. Charging Orders E. Signing Contracts & Documents F. Series Contractual Limitation Of Liability G. Fraudulent (Voidable) Transfers H. Secured Transactions - UCC Revised Article 9; I. Bankruptcy J. Titling Assets K. Securities Law L. Mergers & Conversions M. Dissolution ii

5 SERIES LLC UPDATE: ADVANTAGES, DISADVANTAGES & PRACTICAL CONSIDERATIONS I. WHAT IS A SERIES LLC? A. Definitions. 1. A series is a segregated group of assets and liabilities that is established pursuant to a series statute by agreement of a series organization. A series includes a series, cell, segregated account, or segregated portfolio, including a cell, segregated account, or segregated portfolio that is formed under the insurance code of a jurisdiction or is engaged in an insurance business. "Series" does not include, however, a segregated asset account of a life insurance company. 2. A series LLC, first established by Delaware in 1996, is a limited liability company with internal funds, portfolios, cells, or divisions, each of which may have separate members, managers, assets and liabilities, and business purpose or investment objectives. Most but not all state series LLCs have an internal limited liability shield for each series of the series LLC. There is a master, umbrella, holding company, or mothership LLC, which in turn has one or more separate series. 3. The umbrella LLC is not necessarily the member or a member of each series. Rather, specific LLC members may be associated with a series. A series that is not a legal entity (as is often the case) cannot have its own members, so the LLC members are associated with a series. 4. Member is a person who is admitted to the LLC as a member. 6 Del. Code (11). Member associated with a series is not a defined term. 5. Property or assets associated with a series, means property or assets specified and accounted for on the records of a series organization as attributable to that particular series. 6. In most states, the debts with respect to a particular series are enforceable against the assets of that series only and not those of any other series or the umbrella LLC, nor are the assets of a particular series subject to the debts of other series or the LLC. Del. Code Ann. tit. 6, (b). The liability segregation is referred to as an internal shield. B. U.S. Series LLC States/Jurisdictions With Limited Liability Internal Shield For Each Series. 1. Alabama 10A-5A (effective January 1, 2015) 2. Delaware 6 Del. Code District of Columbia D.C. Code Illinois 805 ILCS 180/ Iowa Iowa Code Ann , superseding 490 A.305) 1

6 6. Kansas Kan. Stat. Ann , Missouri Mo. Rev. Stat Montana Mont. Code Ann (4) 9. Nevada NRS Oklahoma 18 Okla. Stat B 11. Puerto Rico 14 L.P.R.A (General Corporations Act 2009) 12. Tennessee Tenn. Code Ann Texas V.T.C.A., Bus. Org. Code Utah Utah Code Ann. 48-3a-1201 through 1210 (superseding 48-2c-606) C. U.S. Series LLC States/Jurisdictions Without Limited Liability For Each Series. 1. California Cal. Corp. Code Minnesota Minn. Stat. Ann. 322 B.03, subd North Dakota N.D.C.C Wisconsin Wis. Stat. Ann D. Number Of State Filings. A 2013 articles reports that in some series states, very few series LLCs have been formed, whereas Delaware had 8,068, Illinois 9,819, and Nevada 17,920. See Series LLCs December 2013 Update on Recent State Legislative and Taxation Developments, Tax Management Memorandum, 55 TMM 83, 03/24/2014. II. SIMILAR ENTITIES OR STRUCTURES. A. Mutual Funds As Series Corporations Or Trusts. Each investment portfolio of a series company is an open end mutual fund with the umbrella entity registering with the SEC. Each series is a separate mutual fund and has distinct objectives and policies, and interests in each portfolio are represented by a separate class or series of shares. Shareholders of each series participate solely in the investment results of that series. In effect, each series operates as a separate investment company. Gordon Altman et al., A Practical Guide to the Investment Company Act, 2-3 (1996). B. Single LLC With Special Or Schedular Allocations. An LLC taxed as a partnership may have special allocations of income, gain, loss and expense. For instance, an LLC that is an ASC operator may have a percentage ownership interest in each ASC. However, not all owners of the LLC may be economic participants in each ASC. There would be a specified sharing of income, gain, loss and expense for each ASC managed by the LLC with specified members having a specified percentage of that ASC s income, gain, loss and expense. 2

7 Similarly, an LLC can have schedular allocations, i.e., allocations that track particular assets and specifically allocate the results of particular partnership assets or bundles of assets in a particular way. Cuff, Some Basic Issues in Drafting Real Estate Partnership and LLC Agreements, 65 NYU Inst. on Fed Tax n 18.07(19) (2007). C. Multiple LLCs For Each Property Or Activity With Same Or Overlapping Owners. Using commonly managed and operated LLCs presents a risk that a court will pierce the veil and attribute the liabilities of one of the commonly managed firms to the sister LLCs. A Series LLC statute effectively instructs courts to keep the liability separate as long as the members have followed the formalities and record-keeping rules. In other words, the series provisions use formalities as a shield even as the general LLC statutes provide that noncompliance with formalities cannot be used as a sword to pierce the veil. Ribstein, Rise of the Uncorporation 146 (2010). D. Parent-Subsidiary Entities. A parent-subsidiary structure allows one or more levels of limited liability entities, including LLCs, corporations, LLPs, and limited partnerships, with each entity having limited liability. The parent may or may not own 100% of each subsidiary or lower tier entity. Similar to a series LLC, one parent LLC could own an unlimited number of subsidiary LLCs. However, the Series LLC itself apart from some or all of its aggregate owners may or may not have an economic interest in one or more (or even any) of the series as it may not be associated with the series. Only those persons associated with each specific series have an economic interest in such specific series. In addition, the Series LLC may or may not have extensive governance control with respect to one or more series. E. Series Statutory/Business Trusts. Connecticut Conn. Code (b)(2) Delaware 12 Del. Code 3804(a) District of Columbia D.C. Code Kentucky Ky. Rev. Stat. 386A4-010 Virginia Va. Code D Wyoming Wy. Stat F. Protected Cell Companies ( PCC ). Protected cell company and protected cell are terms used in the context of segregated or separate accounts of insurance companies or captive insurers. A protected cell is an identified group of assets and liabilities insulated from other company protected cells. The assets of a protected cell may not be charged with liabilities of any other protected cell or of the sponsored captive insurance company generally. E.g., Del. Code Ann. tit. 18, 6934(3); Mont. Code Ann (2)(c); D.C. Code (b) (D.C. also provides an incorporated protected cell (a)); N.C.G.S (c) and (d) (2013). See Feetham and Jones, Protected Cell Companies (2d ed. 2010). 3

8 G. Series Captive Insurance Company. Delaware was the first state to have a serial entity captive, which permits use of Series LLCs to form the equivalent of a PCC without the minimum premium tax per cell applicable under the PCC statute. III. USES FOR SERIES LLCs. A series LLC is designed to allow the owner of an LLC that comprises separate businesses or separate lines of business (e.g., manufacturing and transportation) to put each in a separate series and protect the assets of one series from the creditors of another. A. Real Estate Development Or Investment in Multiple Properties With Each Property in Separate Series. B. Separating Operating Company Divisions, such a multiple products or manufacturing, distribution, and sales. C. Franchised Businesses With Multiple Locations. D. Ownership Or Leasing Of Multiple Watercraft or Aircraft. IV. FORMATION. A. Delaware. A Delaware series is not a separate entity but has the power and capacity to, in its own name, contract, hold title to assets, grant liens and security interests, and sue and be sued. Del. Code Ann. tit. 6, (c). Assets associated with a series may also be held directly or indirectly... in the name of the [umbrella] limited liability company,. Del. Code Ann. tit (b). The statutory limitations on distributions are applied separately to each series. Del. Code Ann. tit. 6, (i). Thus, one series may make distributions even though other series or the Series LLC may be insolvent. The dissociation from a series of a member associated with a series does not cause him to be dissociated from any other series or the LLC itself. Del. Code Ann. tit. 6, (j). a series is terminated and its affairs shall be wound up upon dissolution of the LLC. Del. Code Ann. tit. 6, (k). Having no members is a dissolution event for an LLC under Del. Code Ann. tit. 6, (4), but there is no comparable provision for a series, that is, there may be a series without having any members associated with it. On application by a member or manager associated with a series, judicial winding up or termination is available with respect to a series. Del. Code Ann. tit. 6, (l) and (m). The creation of the limited liability shield for each series requires the satisfaction of the following conditions: more series; 1. The LLC agreement establishes or provides for the establishment of one or 2. The LLC agreement so provides for the liability limitation; 4

9 3. Notice of the limitation on liabilities of a series is set forth in the certificate of formation; and 4. Records are maintained for the series accounting for the assets associated with the series separately from other assets of the LLC or any other series. The Delaware Act does not expressly provide for the application to a member associated with a series the liability protection expressly conferred on members as to the liabilities of the LLC by 6 Del. Code However, the general protection of should protect the members associated with a series (d) seems to contemplate that result by providing that notwithstanding , a member may agree to be obligated personally for liabilities of a series. B. LLC Articles (Certificate of Formation) - Series Provision. Series. The Company shall establish separate series, as contemplated by Section of the Act, each of which may have separate members, each of which will own separate assets, each of which will have separate rights and powers, and each of which may have separate investment or business purposes. The debts, liabilities and obligations incurred, contracted for, or otherwise existing from time to time with respect to a particular series shall be enforceable against the assets of such series only, and not against the assets of any other series or of the Company generally, and none of the debts, liabilities, and obligations incurred, contracted for, or otherwise existing with respect to the Company or any other series thereof shall be enforceable against the assets of the particular series in question. Separate books and records shall be maintained for each series established by the Company and each such Series s assets. --OR CERTIFICATE OF FORMATION OF [DELAWARE SERIES] This Certificate of Formation, dated,, has been duly executed pursuant to Section of the Delaware Limited Liability Company Act (the Act ) to form a limited liability company (the Company ) under the Act. 1. The name of the Company is, LLC. 2. The address of the registered office required to be maintained by Section of the Act is: 3. The name and the address of the registered agent for service of process required to be maintained by Section of the Act is: 5

10 4. As permitted by Section of the Act, the Company may have one or more series. The debts, liabilities and obligations and expenses incurred, contracted for or otherwise existing with respect to a particular series, whether now existing or hereafter established, shall be enforceable against the assets of that series only, and not against the assets of the Company generally or any other series thereof, and none of the debts, liabilities, or obligations and expenses incurred, contracted for, or otherwise existing with respect to the Company generally or any other series thereof shall be enforceable against the assets of the particular series in question. EXECUTED as of,. Authorized Person C. Registration of Series. Delaware, Iowa, Nevada, Oklahoma, Puerto Rico, Tennessee, and Utah do not require that a series be registered with the state. Other states require registration. District of Columbia. A series is formed upon the filing of the certificate of series designation. D.C. Code (e). Illinois. Set forth in the articles of organization a notice of the limitation on liabilities of a series and file with the Secretary of State a certificate of designation for each series that is to have limited liability (805 ILCS 180/37-40(b)). Forms issued by the Secretary of State: Illinois Form LLC 5.5(S) (Articles of Organization), and Form LLC (Certificate of Designation). Kansas. A Kansas series limited liability company is formed by filing Form (Rev. 11/2/12), and Form LCD, Certificate of Designation, which must be filed for each series. Missouri. The existence of a series begins upon the filing of articles of organization setting forth the name of each series with limited liability. Mo. Rev. Stat (f) and.4 (1)(a). Montana. The Montana LLC Act requires that the articles of organization must set forth, if the LLC has one or more series of members, the operating agreement in writing of each series of members. Mont. Code Ann (1)(h). It is not clear what this means. Texas. H.B. No effective 9/1/13 requires with respect to each protected series doing business in Texas under a name other than the name of the LLC, for the LLC to file an assumed name certificate for the protected series. D. Form of Agreement Establishing Series. Agreement for, LLC Series This Agreement (this Agreement ) is entered into effective as of, 20 by 6

11 , a Delaware limited liability company ( Company ) and the other signatories hereto to create a separate series (the Series ) under the Limited Liability Company Agreement of, LLC (the LLC Operating Agreement ). Unless otherwise specified herein, all capitalized terms used herein shall have the meanings assigned to them in the LLC Operating Agreement. Company and the other signatories hereto are herein referred to as Series Members. The Series created hereby and the rights and obligations of the Members of such Series shall be governed by the LLC Operating Agreement as supplemented hereby. 1. Name of Series:, LLC Series 2. Purpose: The purpose of this Series is to receive distributions (which may be direct or indirect through other entities) received by in respect of the promoted or carried interest owned by in. 3. Series Members and Series Sharing Ratios: The Series Members and the percentages in which they shall share any distributions in respect of the promoted or carried interest described above (their Series Sharing Ratios ) are as follows: Name: Series Sharing Ratio % Total % % The Series Sharing Ratios are subject to dilution if additional Series Members are admitted to the Series as provided in Section 4 below. 4. Additional Series Members; Dilution. No additional Series Members shall be admitted to the Series without Company s prior approval. If Company so approves, additional Series Members may be admitted to the Series and each Series Member s Series Sharing Ratio shall be subject to dilution to reflect the admission of such new Series Member under the terms and conditions approved by Company, provided that no Series Member s Series Sharing Ratio shall be diluted by more than percent ( %) without such Member s approval. Such admission shall be reflected as an amendment to this Amendment which shall be valid if executed by Company and the new Series Members. 5. Distributions: Distributable funds shall be distributed to the Series Members in accordance with their Series Sharing Ratios as set forth in Section 3 (as revised from time to time pursuant to Section 4). Company shall determine what funds received by the Series are available for distribution from time to time, taking into consideration future needs of the Series and its current obligations. 6. Series Member Vesting Provisions. [Add as agreed upon cover events which lead to a vesting and/or forfeiture of Series interests] 7. Transfers. No Series Member (other than Company) may transfer all or part of his interest in the Series, or collaterally assign, pledge, or grant a security interest in his right to receive distributions from the Series without the prior written consent of Company. 8. Management. Company shall have complete authority to manage all affairs of the Series 7

12 without the approval, consent or other participation by any other Series Member. Executed effective as of the date set forth above. SERIES MEMBERS: By: Name: Title: E. Sample Delaware Series LLC Operating Agreement Language. Be certain to distinguish language in the Agreement that is to be applicable only to the Company generally from language in the Agreement that is to be applicable to both the Company and to each Series. See the language in Section 2.3(e) below. One can provide some of the specific rules for each Series either in the LLC Agreement or in a separate agreement or other document. These would be rules for management, allocation of cash flow and tax items, amendment and dissolution, etc. The separate document could even be a nearly complete LLC operating agreement for that particular Series. Each situation determines which rules are in the LLC Agreement and which rules are in the Series Agreement. Nevertheless, the LLC Agreement itself needs to address some of the rules that apply to the umbrella LLC and to the Series. All series members are members of the LLC itself. The Delaware Act uses the term "member associated with a series" rather than member of a series. That raises the question of whether one has to be a member of the LLC to be a member associated with a series of the LLC. The safest option is for all series members to be LLC members. In other words, they have membership interests in the LLC as well as associated with their particular series. Additionally, while Del. Code Ann. tit (d) allows one to be a member of the LLC without owning a membership interest in the LLC, it seems prudent that everyone owns a membership interest and make a capital contribution, even if it is a nominal amount. Section 2.3 Series Nature of the Company. 2.3 (a) Generally. The Company is organized as a Series Limited Liability Company and is authorized to establish designated series of members, designated series of managers, and designated series of limited liability company interests, including Members, Managers, and interests in the Company itself and Members, Managers, and interests in one or more Series the Company shall authorize from time to time. Pursuant to Section (b) of the Delaware Limited Liability Act, the debts, liabilities, obligations, and expenses incurred by, contracted for, or otherwise existing with respect to a particular Series of the Company, whether such Series is now authorized and existing pursuant to the Limited Liability Agreement of the Company or is hereafter authorized and existing pursuant to the Limited Liability Agreement of the Company, shall be enforceable against the assets associated with that Series only and not against the assets associated with any 8

13 other Series or against the assets of the Company generally and none of the debts, liabilities, and obligations incurred, contracted for, or otherwise existing with respect to the Company generally or any other Series of the Company shall be enforceable against the assets of such Series. 2.3 (b) Series Designation. Each Series shall be designated by a letter of the alphabet. The Series currently authorized are the *[number of Series] Series designated A through *. 2.3 (c) Separateness of Series. The Company itself and each Series shall have title to its own assets and shall have obligation for its own liabilities and each shall keep records of same. The Company and each Series shall have its own Members and its own Manager or Managers and the Company shall keep records of same. Members and Managers of one may be Members and Managers of any number of the others. The Company and each Series shall have its own separate income, expenses, capital gains and losses, and other financial items and each shall keep records of same. 2.3 (d) Designation of Series Members and Managers. The Members and Managers of each Series shall be designated in the Company records and in the records of such Series. 2.3 (e) Effect of Agreement on Series. Except as otherwise provided in this Section 2.3 (for example, the exception in Section 2.3(f)), the provisions of Sections* (in addition to applying to the Company and to the Company Units) shall apply to each Series except to the extent that Series Rules of a particular Series shall be duly adopted, in which case such Series Rules shall control in the event of, and to the extent of, any conflict between one of such Articles and such Series Rules. In that regard, when considering matters relating to a Series, references in Sections * to Member(s) and Manager(s) shall be deemed references to the Member(s) and Manager(s) of the particular Series as designated in the Company records and in the records of such Series, and references to the Company shall be deemed references to such Series. For example, the voting rules of Section 5.9 shall apply to votes on Company matters by the owners of Company Shares, and to votes on matters relating to a particular Series by the owners of Shares of that Series. 2. Particular attention should be paid to the provisions regarding the Manager, amendment of the Agreement, and dissolution of the Company. 3. There are often powers granted to the Company Manager that you do not want held by any particular Series Manager, or powers that are of such a general nature that they need only exist at the Company level. The following language provides that the Manager of a Series does not have such powers granted in the Agreement to the Company Manager. (I used the Manager s power to make distributions in this example.) 2.3 (f) Certain Powers of Company Manager. The powers granted in Section to the Company Manager regarding the authority to make distributions shall be powers with respect to the Company and with respect to each and every Series. The Manager for this purpose shall mean the Manager of the Company only, and no Series Manager in his capacity as 9

14 such shall have any power under Section I put a provision in the Agreement to prevent issues of amendment and dissolution from being done by the Series Members and Managers. I do not find in your Agreement that you have provided for amendment of the Agreement or that you have a provision for how the Company is to be dissolved (perhaps because it is a single member LLC). If you add these, I suggest the following to handle this point. 2.3 (g) Certain Limitations on Series. References in Section * (to amendment of the LLC Agreement) and in Section * (to Dissolution and Termination of the Company) to Members and to the Manager shall mean Members of the Company and the Manager of the Company, respectively, and shall not be references to the Members or Manager(s) of any Series. References in Section * and Section * to Units shall mean Company Units and shall not be references to any Series Units. References in Section * and Section * to the Company shall mean the Company only and shall not be references to any Series. No Series Rules may be adopted that would alter in any manner the effect of Section * or Section * of this Agreement. 5. Include a provision explaining the nature of the designation of the Company Units and the Series Units. Section * Nature of Units. Units in the Company, as distinguished from Units in a Series, are referred to in this Agreement and in the Certificates of Units issued by the Company either as Units or as Company Units or as Units of the Company. References to Units without further modification are references to Company Units. Units of all Series collectively, are sometimes referred to in this Agreement as Series Units. Units of a particular Series are referred to in this Agreement and in the Certificates of Units issued by the Company with the designation of the particular Series issuing such Units. For example, Units of Series A are referred to as Series A Units. Article X 6. The following is an example of a set of Series Rules. SERIES A RULES Section 10.1 Series A Manager. John Jackson and Jill Jones shall be the Managers of Series A (the Series A Managers ). Subject to the terms of Article I through Article IX of this Agreement, the Series A Managers shall be responsible for the management of Series A, and, when acting jointly, shall have the fullest right, power, and authority to manage, direct, and control all of the business and affairs of Series A, to transact business on its behalf, and to sign for it or on its behalf or otherwise to bind Series A, except as otherwise limited by this Agreement or by the Act. The Series A Managers, when acting jointly, may designate from time to time the officers of Series A, including a President and Secretary, who shall serve at the pleasure of the Series A Managers and shall have the authority and duties assigned to them by the Series A Managers. If either John Jackson or Jill Jones shall become incapacitated, then the 10

15 other of them shall serve as sole Series A Manager during such incapacity. Upon the death of either John Jackson or Jill Jones, the other of them shall serve as sole Series A Manager. In the event that John Jackson and Jill Jones cannot agree on a matter requiring the decision of the Managers, then such decision shall be made by Joseph Mediator and the Managers agree to be bound by such decision and that such decision shall be deemed the decision of the Managers. Section 10.2 Series A Revenues, Expenses, and Profits. Series A Profits shall be allocated among the Series A Members in proportion to their respective Series A Units. Series A Profits means Series A Revenues minus Series A Allowable Expenses. Series A Revenues means the gross income from the sale of * (such product is sometimes referred to as the Series A Product. Series A Allowable Expenses means (1) all start-up expenses for Series A incurred in 2004 (and specifically excluding start-up expenses, if any, for any other Series), (2) direct expenses incurred with respect to the business of Series A, and (3) Series A General Overhead Expenses. Series A General Overhead Expenses means all expenses of the Company other than direct expenses incurred with respect to the business of any Series times the ratio of Series A Revenues to Company Revenues. Company Revenues means all revenue received by the Company from operations (for example, Company Revenue excludes capital and loans to the Company). Section 10.3 Series A Operations. With respect to the Company, Series A owns the exclusive right to sell the Series A Product. As such all sales by the Company of the Series A Product shall be made by Series A. Either or both of John Jackson and the Company (either directly or through other Series created from time to time) may engage in any business (other than the sale of Series A Product as defined above) without the consent or involvement of Jill Jones. The Company may create from time to time other Series with which Jill Jones will have no involvement. The Company, or such other Series as may be created, or both, may purchase from any supplier and may sell to any customer any products other than the Series A Product. The Company shall distribute the Series A Profits to the Series A Members from time to time, but at least as often as annually, in proportion to their respective Series A Units. By way of clarification and emphasis, except with regard to the special rules for Series A, distributions to Members will be made when and in the amounts determined by the Company Manager. Section 10.4 Units; Transferability. No new Members shall be admitted to Series A and no additional Series A Units shall be issued without the consent of both John Jackson and Jill Jones. A Series A Member may withdraw from Series A at any time during his lifetime by giving written notice to the other Member of Series A. Such withdrawal shall be effective not sooner than ten days after such notice is given. Upon the effective date of such withdrawal, the 11

16 withdrawing Series A Member shall receive the sum of $2, and his Series A Units shall be cancelled. The Members agree to review this price approximately every six months and to adjust it to the extent they deem necessary. The Members also agree to substitute for it within three years of the date of this Agreement a price determined by a formula based upon the financial performance of Series A. A Series A Member s Series A Units are transferable during his lifetime, but only upon the written consent of the other Series A Member. Upon the death of a Series A Member, his Units shall be transferred to the person designated in this Section; provided, however, that the other Series A Member shall have the right to purchase all but not less than all of such Series A Units should the designee die within one year after the death of the Series A Member or should the designee desire to transfer such Series A Units within one year after the death of the Series A Member. The purchase price upon the death of the designee shall be the amount in the designee s Series A capital account. The purchase price should the designee desire to transfer such Series A Units shall be the amount of the bona fide offer received by such designee for those Units, payable on the same terms as contained in such offer. Section 10.4 Amendment of this Article. Amendment of the terms of this Article will be only upon the consent of John Jackson and Jill Jones. 7. Use Schedules to distinguish between Company contributions and Series Contributions: SCHEDULE OF CAPITAL CONTRIBUTIONS Amount of Capital Number of Name Contribution Company Units John Jackson $10, ***10,000*** Jill Jones $ ***100*** SCHEDULE OF SERIES A CAPITAL CONTRIBUTIONS Name Capital Contribution Units John Jackson $5, ***5,000 Series A*** Jill Jones $5, ***5,000 Series A*** F. Series As Separate Entity. 12

17 While a Delaware series is not a separate legal entity, a series may be a separate legal entity in other states. Nevertheless, a Delaware court has ruled that a Series may file a lawsuit in its own name. GxG Management LLC v. Young Brothers and Co., Inc., 2007 WL (D. Me. 2007). 1. Illinois. A series is treated as a separate entity to the extent set forth in the articles of organization; each series with limited liability, may, in its own name, contract, hold title to assets, grant security interests, sue and be sued and otherwise conduct business and exercise the powers of an LLC. 805 ILCS 180/37-40(b). 2. Iowa. The Iowa LLC Act provides that a series shall be treated as a separate entity to the extent set forth in the certificate of organization. Iowa Code Ann District of Columbia. The articles of organization may provide that a series be treated as a separate entity from the LLC, other series of the LLC, or members of the LLC. D.C. Code (i). A series of an LLC has the capacity to sue and be sued in its own name and the power to do all things necessary or convenient to carry on its activities. D.C. Code (j). 4. Kansas. A series with limited liability shall be treated as a separate entity to the extent set forth in the articles of organization. Kan. Stat. Ann ,143(b). 5. Missouri. A series with limited liability shall be treated as a separate entity to the extent set forth in the articles of organization. Mo. Rev. Stat (4). V. TAX TREATMENT. A. Federal Income Tax. Federal tax law controls the question of whether each series is a separate taxpayer. See Treas. Reg (a)(1). A series organized or established under U.S. federal or state law, whether or not a juridical person for local law purposes, is treated as an entity formed under local law. Prop. Reg (a)(5)(i). 1. Private Letter Ruling. PLR concluded that each separate series of a series LLC with more than one owner constituted a partnership, and each separate series of a series LLC with one owner constituted an entity disregarded as an entity separate from its owner for federal tax purposes. The Service also concluded that each separate series of a series LLC was entitled to choose its own entity classification independent of the classification of other series of the LLC. The ruling does not contain any detailed analysis, but the taxpayer made the following representations that IRS presumably relied on in issuing the ruling: Allocations of taxable income, gain, loss, deduction, and credit of each separate series will be made separately and in accordance with Sections 704(b) and (c). The members of each separate series will share in the income and such other items only of that series. 13

18 The interest of members of each separate series will be limited to the assets of that series on liquidation, redemption, or termination. Each separate series will have its own investment objectives, policies, and restrictions. Members of each separate series will vote only with respect to matters affecting that particular series. The claims of creditors of each separate series will be limited to the assets of that series. While the available guidance from the Service is limited, in many instances each separate series of a series LLC should constitute a separate entity for federal tax purposes. Because the analysis of whether a separate entity exists is fact intensive, however, a separate determination generally will be required with respect to each series LLC to determine whether one or multiple entities exist. Factors that may indicate each series is a separate entity could include: Liability separation the liabilities of each series may be satisfied only by looking to the property of that series, and creditors of a series may not look to the income or assets of any other series for payment. Under the proposed IRS regulations, a series will not cease to be a state law entity simply because it guarantees the debt of another series within the series organization. Separate business each series conducts a separate business. Independent ownership the members and/or their ownership percentages vary from series to series. Governance the members of each series vote only on matters with respect to their series. Separate books and records each series maintains separate books and records with respect to the assets and operations of that series. Separate economics the economics of each series (i.e., assets, liquidating and nonliquidating distributions, and allocation of profit and loss) are shared solely among the members of that series. 2. Similar Case & Rulings. Under somewhat similar law dealing with the federal tax classification of Delaware series trusts, the more separate the property and obligations of each trust series from the property and obligations of every other trust series, the more likely the Service and the courts are to find that each trust series constitutes a separate entity for federal tax purposes. See, e.g., National Securities Series Industrial Stock Series,13 T.C. 884 (1949), acq.; Rev. Rul and PLR IRS Proposed Regulations. Prop. Reg (a)(5) do not refer specifically to series LLCs but rather to series organizations. However, the Preamble to the

19 Proposed Regulations specifically refers to series LLC statutes in various enumerated states and indicates other states that enact such a law will have a series statute. The Proposed Regulations do not address employment tax liability or foreign series organizations, except foreign insurance companies. Thus, it is not clear if each series is a separate entity for employment tax liability, and the same LLC member or manager might be a responsible person for more than one series or the series organization itself. In general, the 2010 Proposed Regulations will apply on the date final Regulations are published in the Federal Register. The treatment set forth in the Proposed Regulations is not elective; it is mandatory. A series established under state law is treated as an entity formed under local law, for purposes of the check-the-box regime, even if under local law it is not treated as such. Prop. Reg (a)(5)(i). Thus, each series and the LLC itself must file their own tax return. The proposed regulations also state that the tax classification of the series is determined using the traditional check-the-box analysis. Prop. Reg (a)(5)(iv). Under this analysis, an entity that is separate from its owner(s) and is not an ordinary trust or a corporation will be classified as either a disregarded entity (if it has one owner) or a partnership (if it has two or more owners), unless it makes an election to be treated as an association taxable as a corporation. Treas. Reg Neither the Delaware statute nor the Proposed Regulations specify how members are to be "associated" with a particular series. The Delaware statute leaves it to the LLC agreement to specify how members are associated with a particular series and their relative rights. a. Income Tax Filing Requirements. Since the proposed regulations treat a series as a separate entity for federal tax purposes even though it might not be a separate person under state law, the proposed regulations require that statements be filed annually by each series and series organization. Prop. Reg The Service has not yet indicated what that information should be. Prop. Reg (a).These statements are not required to be filed until the proposed regulations are finalized. Prop. Reg (c). When filing is required, the statements will be due on or before March 15 of the year following the period for which the return was filed. b. One Return vs. Multiple Returns; Series As Disregarded Entities. There is a potential under the Proposed Regulations for either the series organization to own the interests in the series or for members of the series organization that are associated with a series to be treated as owning interests in the series for federal income tax purposes. In many situations, the distinction may be clear. If all the members in the series organization have their return from the series blended at the series organization level and the documents themselves state that the series are owned by and associated with the series organization, there may be little ambiguity that the series should be treated as disregarded and that the series organization and the series should be collectively treated as a single tax entity. If, however, the members take their return from each series separately, without reduction or increase by losses or income from other series, and the documentation states that groups of members are associated with particular series, there would be little ambiguity that the series should be treated as multiple tax entities. c. Pre-Sept. 14, 2010 Series Can Be Treated As One LLC. 15

20 There is an exception that allows all series to be treated as one entity if 6 tests are met and no persons who were not owners prior to September 14, 2010 in the aggregate acquire a 50% or more "interest" in any part of the series LLC. Prop Reg (f)(3)(ii)(A) says that a taxpayer's treatment of a series in a manner different than required by the final regulations will be respected on and after the date final regulations are published if all of the following tests are met: (1) The series was established prior to September 14, 2010; (2) The series (independent of the series organization or other series of the series organization) conducted business or investment activity, or, in the case of a series established pursuant to a foreign statute, more than half the business of the series was the issuing of insurance or annuity contracts or the reinsuring of risks underwritten by insurance companies, on and prior to September 14, (3) If the series was established pursuant to a foreign statute, the series' classification was relevant (as defined in (d)), and more than half the business of the series was the issuing of insurance or annuity contracts or the reinsuring of risks underwritten by insurance companies for all taxable years beginning with the taxable year that includes September 14, 2010; (4) No owner of the series treats the series as an entity separate from any other series of the series organization or from the series organization for purposes of filing any Federal income tax returns, information returns, or withholding documents in any taxable year; (5) The series and series organization had a reasonable basis (within the meaning of section 6662) for their claimed classification; and (6) Neither the series nor any owner of the series nor the series organization was notified in writing on or before the date final regulations are published in the Federal Register that classification of the series was under examination (in which case the series' classification will be determined in the examination). New 50% or more owners exception. Prop Reg (f)(3)(ii)(B) provides that the rules above will not apply on and after the date any person or persons who were not owners of the series organization (or any series) prior to September 14, 2010 own, in the aggregate, a fifty percent or greater interest in the series organization (or series). For purposes of the preceding sentence, the term interest means (1) In the case of a partnership, a capital or profits interest; and (2) In the case of a corporation, an equity interest measured by vote or value. Thus, if a series is not subject to special tax status rules applicable to REITS, REMICS or trusts, or otherwise classified as a per se corporation, it will be treated as a business entity eligible for classification as a corporation (upon election) or as a partnership (if it has at least two members) or a disregarded entity (if it has only one member). Example. Proposed Treasury Regulation (a)(5)(x) (Example 1) provides the following example. Domestic Series LLC is a series organization. Series LLC has three members (1, 2, and 3). Series LLC establishes two series (A and B) pursuant to the LLC statute of state Y, a series statute within the meaning of paragraph (a)(5)(viii)(b). Members 1 and 2 are the owners of Series A, and Member 3 is the owner of Series B. Series A and B are not described in (b) or paragraph (a)(3) of this section and are not trusts within the meaning of 16

21 Series A and Series B are each treated as an entity formed under local law. The default classification under of Series A is a partnership and of Series B is a disregarded entity. Importantly, the proposed regulations state that the result may be the same even in those instances in which the liabilities and obligations of one series may be paid from the assets of another series or the series organization. 4. EIN. Until the IRS adds the Series LLC to the list of legal structures applying for an EIN and addresses the many issues raised by a Series LLC in the current EIN online application process, the best approach to apply for EINs for a Series LLC is described below. One issue with the current system is the IRS s limit of one EIN per day per responsible party. It will take three days to apply for three series EINs, and four days 4 if the umbrella LLC also applies for an EIN. If one wants to file one tax return for an entire Series LLC, then the LLC and each series could be treated as disregarded entities without their own separate Tax ID/ EIN and file their taxes on one return. However, if each series has different businesses, or different ownership, a separate EIN for each series seems to be the appropriate choice. If each series of an LLC owns a separate piece of real estate and the parent LLC and each series have the same ownership, one EIN should be sufficient. When applying for an employer identification number ( EIN ) on IRS.gov you must provide the legal name of the LLC that is applying for the EIN. The dilemma presented to applicants is that the name of the LLC on file with the Texas Secretary of State (and the one that should therefore be used) will not match the name of the particular series for which you are applying for an EIN. And if you have multiple series inside the LLC you will not be permitted to use the name of the LLC on subsequent applications for additional series. For example, if the legal name of the LLC is PARENT, LLC, a Texas limited liability company, then the legal name used for the EIN application is PARENT LLC [the comma is omitted on the EIN application as IRS.gov does not permit the use of special characters). If, however, the legal name of the LLC is PARENT, LLC, a Texas series limited liability company, then the same legal name is used as in the previous example (i.e., PARENT LLC). How does a series of PARENT, LLC apply for an EIN? One approach is to use both the series name and the LLC s name in the EIN application. For illustration, let s assume series LLC s legal name is PARENT, LLC, and assume the first series is 123, LLC, an individual series of PARENT, LLC, a Texas series LLC. Using this example, the legal name on the online EIN application would be 123 LLC, a series of PARENT, a Texas series LLC Now, when applying for an EIN for 456, LLC the second series I am able to (1) obtain an EIN for this individual series of the company and (2) notify the IRS that this company is a series of a Texas LLC. Neither the IRS, nor the public, will find a Certificate of Formation in Texas for 123, LLC. What 17

22 can be found, however, is an assumed name (fictitious name) certificate for 123, LLC that identifies it as a series of PARENT, LLC. 5. Employment & Employee Benefit Issues. For both employment and employee benefit purposes, a variety of issues arise if a series is treated as the employer for federal tax purposes but the umbrella series organization is treated as the employer for state law purposes. The Preamble to the Proposed Regulations notes that several requirements must be satisfied to be treated as an "employer." It is not clear how the requirements should apply to series. Treasury and the IRS have requested comments on how these issues should be addressed. B. State Tax Treatment. 1. California. The California Franchise Tax Board has stated its position that each component series of a Series LLC, for example a Delaware Series LLC, is treated as a separate LLC and must file its own Form 568, Limited Liability Company Return of Income, and pay its own separate LLC annual $800 tax and fee if it is registered or doing business in California, and state income tax per series of zero to $11,790 based on gross California receipts. See California 2013 Limited Liability Company Tax Booklet, Section F, p. 7; FTB 3556 LLC MEO p. 4 (Rev ).... the same filing guidelines and estimated taxes that apply to a regular LLC will apply to each unit of a series LLC. FTB 1123, Guide to Forms of Ownership 17 (2013). 2. Delaware. In a Private Letter Ruling dated September 16, 2002, the Delaware Department of Finance, the Division of Revenue, ruled that (1) each series of the LLC will be disregarded for purposes of Delaware taxation since a series is merely a segregation of assets and liabilities within a Delaware limited liability company, and each series will be wholly-owned by the taxpayer for purposes of federal income taxes; and (2) any transfer of assets among the series will be treated as assets among or within the same entity, triggering no Delaware taxes so long as the assets remain within the LLC. 3. Florida. One of the earliest state rulings on federal-state conformity was Florida Department of Revenue Technical Assistance Advisement (TAA) No. 02(M)-009 (Nov. 27, 2002), in which the DOR indicated that it will follow the federal income tax treatment of each series in an LLC, unless that treatment conflicts with Florida law. 4. Illinois. The limited liability company and any of its series may elect to consolidate their operations as a single taxpayer to the extent permitted under applicable law ILCS 180/37-40(b). ST GIL said that Illinois will follow the proposed federal regulations. 5. Kansas. The LLC and any of its series may consolidate their operations as a single taxpayer, without affecting the limitation of liability. Kan. Stat. Ann ,143(b). 6. Massachusetts. Massachusetts Letter Ruling 08-2 (Feb. 15, 2008) ruled that each LLC Series and any additional series established by LLC in the future will be classified for Massachusetts income and corporate excise tax purposes in accordance with its federal classification. We do not rule on whether each series of an LLC is a separate LLC. 18