The easiest way to demonstrate the advantages of a holding company are through examples. Setting up a holding company, and accompanying subsidiaries, is popular for investors in industries as diverse as real estate, trucking, finance, e-commerce and more.
It’s commonly understood the benefits of creating a Limited Liability Company or a Corporation. They are asset protection, lower taxes, increased professionalism and (sometimes) privacy.
Less understood are the reasons to create a holding company, or how to go about structuring your business in the most efficient manner. Just as a business entity provides benefits unavailable to a sole-proprietorship, so too does a holding company provide benefits unavailable to a single business entity.
A holding company may be set up with a parent-child or a sister-sister relationship. Each has their intricacies, but here we will cover the general benefits of a holding company before moving to specific examples.
A single entity creates a separation between the assets of the owners and those of the business. This is called the corporate veil and prevents an accident with the company from affecting you personally. For example, if someone slips and falls at a rental home, then they can sue the company which owns the home – but they cannot personally sue the owner.
The limitation of the corporate veil is that it does not prevent business creditors from pursuing business assets. For those with real estate, intellectual property, valuable equipment, large bank accounts, etc. this means much is still at risk.
Fortunately, holding these assets in a separate company can help. For example, a distribution company could hold their warehouse and trucks in one company, with another managing operations. The operational company manages employees, schedules deliveries and signs contracts with customers.
If there is an accident, then the operational company (which does not hold assets) is the first line of defense. Similarly, a real estate company may hold property in one company and use a separate company for property management.
The simplest method for lowering taxes is the fact the new tax law provides additional write offs to businesses that sole-proprietorships do not have. This is available to all business owners.
Having multiple companies allows you to flow money through in the most efficient manner possible. For example, many use a corporation at the top to enjoy the low 21% federal tax rate. Others, in more advanced scenarios, use an offshore company to hold assets in a low or no tax jurisdiction.
One scenario is forming a Wyoming Corporation may own your trucks and your operating LLC, in a higher tax state, can pay it for the lease. This would work in any state that has no corporate tax rate. This diverts money from a high to a low tax area in a legal way. This is referred to as transfer pricing.
Some states allow anonymous companies and others do not. Some allow anonymous LLCs and Corporations, whereas others allow just LLCs. The most common anonymous states are Wyoming, Nevada and Delaware. New Mexico is rising in popularity, but only allows anonymous LLCs.
Individuals in states such as Florida and California are required to disclose significantly more information. Fortunately, through using a “Double LLC” this can be avoided.
Florida requires the owner of an LLC be listed. To avoid listing yourself, you may form an anonymous LLC in New Mexico and list it instead as the owner. This satisfies Florida’s disclosure requirements without sacrificing your personal privacy in the process.
As identity theft, and aggressive creditors, become more common so too does this strategy. It is not simply for those with “something to hide”, but can be effectively used to minimize your digital footprint and the chance you become a victim of circumstances.
Those with many lines of business, such as e-commerce stores, will find they may want to buy or sell existing brands. This is made easier when each revenue stream was maintained as a separate company. The company can be spun off, and the account more easily valued, when separate books and records have been maintained.
The alternative is one company with many different revenue and expense streams that cannot be easily separated. This scares off potential buyers and makes valuations more difficult.
Separating accounts in this way also provides asset protection as mentioned above. Why let one line of business potentially affect another? For example, candles or kids toys are high risk, whereas selling t-shirts and hats is not. Separate them at the beginning to avoid any issues later on!
What follows is a cursory overview of several industries which commonly use holding companies to further their business objectives.
Real estate investors commonly use holding companies because their assets are simultaneously valuable and inherently risky. Each property can be easily put into its own silo to avoid the liabilities of one property from affecting another.
Generally, there is a master company at the top with children LLCs at the bottom. Each LLC is owned by the master and holds a single property. That LLC is in charge of hiring contractors, signing agreements with tenants and maintaining the property.
Those with diverse financial interests often bring them under a single umbrella company. This simplifies finances and brings the ability to move funds between companies more easily.
Only the holding company must file a financial return. This is referred to as a consolidated filing since all the subsidiaries “consolidate” their filings into one at the top.
If one entity is generating significant cash flow, then it can be moved to the company at the top and optionally to another subsidiary as needed. This both moves money away from a subsidiary, which could experience a credit event, and allows funds to be moved towards companies which may need it more such as a start-up company.
E-commerce companies often represent a diverse collection of brands and interests. You may wish to keep the relationship between these entities hidden. One revenue stream may also be riskier than others and pose a risk to the whole organization if lumped together, e.g. children’s toys or candles.