A holding company is unique from typical commercial companies in that it doesn’t sell any products or services of its own, nor does it conduct any of its own business operations. Rather, a holding company is a parent entity with the sole purpose of owning, or “holding”, shares of other companies.
If you own several businesses, the holding company structure allows you to streamline management and ownership of those businesses while also limiting your liability and offering protection to your business assets. In this case, when a business is owned by a holding company, that business is considered a subsidiary of the holding company.
A subsidiary is a company owned by another company, whether a holding company or parent company. The subsidiary company can vary in entity type (LLC, C-corporation, etc.) and may be formed by the controlling company or acquired by it.
The holding company does not need to wholly own the subsidiary but rather just enough voting stock in the company to achieve a controlling interest. In other words, the holding company must own at least 50% of the subsidiary company.
The subsidiary structure is commonly used as a method for managing risk. For example, subsidiaries are a popular choice in real estate when handling ownership of several properties. These properties can be established as subsidiaries of a holding company as a way to protect each property’s assets from the potential liabilities of the others.
For example, if Holding Company Z owned Properties A, B, and C (each formed as separate subsidiary companies), then the assets of Properties A and B would not be in jeopardy if Property C experienced legal or debt trouble.
In certain cases with larger holding company structures there can be several levels of subsidiary companies known as tiered subsidiaries: first-tier subsidiary, second-tier subsidiary, third-tier subsidiary, and so on as necessary.
There are two methods of creating a subsidiary: formation and acquisition. If you’re looking to form a subsidiary, you can do so by registering the new company with the state in which it will operate. The actual formation process will vary some depending on which entity type you choose for the subsidiary, such as an LLC or corporation, as well as the particular regulations of the state in which you’re forming.
Another way to create a subsidiary is by acquiring an ownership stake in a company. This could be a wholly owned ownership stake (100%) or any controlling interest (greater than 50%). Note that however your subsidiary company is created, the company will require its own financial records separate from the controlling company and other subsidiaries. Additionally, the management style and autonomy of the subsidiary has flexibility and can be tailored to meet the needs of the specific company.
The holding company/subsidiary structure is a popular choice among business owners in a variety of industries. Some of the top benefits enjoyed by subsidiaries are their tax advantages, limited liability, and flexibility in management structure.
In certain cases, there may be tax advantages to forming a subsidiary company. For example, some states will only tax the profits of a subsidiary rather than the total profits of the holding company if it’s formed in a different state (or country). This is why it’s common to see multinationals form subsidiaries in more tax-friendly locations.
This is a commonly sought after benefit of the holding company/subsidiary structure. So long as you ensure that your holding company is correctly formed and you maintain the proper formalities for structuring and managing subsidiaries, the holding company will enjoy protection from the liabilities of its subsidiaries. Additionally, the assets of each subsidiary will be protected from the liabilities of other subsidiary companies.
Another attractive subsidiary benefit is the ability to have numerous businesses operating under their own management structures. Under this structure, each business is technically controlled by the holding company but each maintains the ability to form its own management style, operations, culture, and more, to adapt to a particular industry of location.