Lately, I have heard much about something called the “Series LLC,” which has been touted as a new way to operate multiple businesses – including multiples real estate investments/properties – under the “umbrella” of one Limited Liability Company (LLC), while also protecting the assets of each “Series” in the LLC from the creditors of the other unrelated businesses /investments in the Series, while also reducing expenses and administrative burdens. Are there any potential issues which might arise when using a Series LLC, as opposed to forming multiple LLCs (or other types of business entities)?
The Series LLC is a relative newcomer to the legal landscape. It’s so new, in fact, that as of this writing, only thirteen states – including Texas – as well as the District of Columbia and Puerto Rica, have adopted legislation providing for the formation of Series LLCs.
Before getting into a discussion of the merits of Series LLCs, let us first define what a Series LLC is and why an entrepreneur with multiple businesses or a real estate investor with multiple properties might be interested in using one. On a most basic level, a Series LLC seeks to accomplish within the confines of one legal entity that which, before the Series LLC, was commonly accomplished with multiple “traditional” LLCs.
Traditionally, real estate investors who wanted to avail themselves of the asset protection qualities of LLCs, that is, the benefits of segregating and insulating assets from liability producing events that are unrelated to the asset itself, would form a new and separate LLC for each parcel of investment property that they owned. An investor with 10 single family investment properties might, using this strategy, end up owning ten different LLCs. Although this might be a bit cumbersome and inconvenient, not to mention expensive, it is still within the realm of being feasible from a business perspective. But can the same be said of the investor who, instead of owning 10 properties, now owns 100 properties?
The Series LLC ostensibly addresses this problem. With a Series LLC, the investor forms just one “parent” LLC – which itself does not hold any investment properties. Thereafter the investor simply “creates” a new “Series” (or sub-LLC) for each parcel of investment property that is owned or later acquired. No state or other governmental filing is required to create a new Series, and each Series is treated as its own separate entity and may have its own unique membership interests.
Sounds great! What’s not to like? Unfortunately, plenty.
The problem with the Series LLC is not unique to the Series LLC. It is the problem that plagues everything in law that is new: An absence of precedent. In simple terms, we just don’t know how the courts will interpret and apply the Series LLC statutes. Lawsuits can arise in, essentially, two contexts: between members of the Series LLC (internal disputes) and between member of the Series LLC (or a Series itself) and third parties (external disputes).
Generally, courts are likely to resolve internal disputes based on ordinary contract law, in the case of a Series LLC, the Operating Agreement. But even this can get complicated with the Series LLC. What about disputes between a member of one Series and a member of a different Series? What about disputes between a member of one or more Series and the “Parent” LLC? How are courts to apply “alter ego” principles, which are principles that allow courts to disregard and treat two (or more) entities as a single “person” for purposes of a lawsuit?
External disputes are even more problematic. Unlike with internal disputes, third party creditors did not agree to the Series LLC structure. Will courts allow the creditors of one Series to “raid” the assets of another, unrelated Series to satisfy court judgments against the former with the assets of the latter? We could hazard a guess to this question if all parties are, and the incident giving rise to the lawsuit occurred, in the same state, and that state happens to be one that recognizes Series LLCs. Our guess, however, would be much more hazardous if one of the plaintiffs in the lawsuit is, or the incident that give rise to the lawsuit occurred, in a state that does not recognize Series LLCs.
Other, as yet, unanswered questions: What happens when there is a bankruptcy? If one Series files for bankruptcy, will that Series drag the other Series down with it? What if the parent LLC files for bankruptcy? Will the assets of the various Series be fair game for the bankruptcy trustee? As of this writing, there is no judicial precedent to help us predict the answers these questions.
The bottom line: Unless the sole purpose of a Series LLC is convenience – and not the separation and segregation of different assets and liabilities – or unless one is interested in privately financing the development of case law, as well as having the name of their Series LLC forever recorded in the annals of the appellate reports, extreme caution should be exercised before paying some lawyer or other professional to set up a Series LLC. For real estate investors and other entrepreneurs who are serious about engaging in pre-litigation planning (e.g., asset protection), there are better, time-tested, tools in the legal toolbox that can be used.
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Disclaimer: The information contained in this publication is provided by Lapin Law Offices, P.C., for informational purposes only and, shall not constitute legal advice or create an attorney-client relationship. The laws and interpretation of laws discussed herein may not accurately reflect the law in the reader’s jurisdiction. Do not rely on the information contained in this publication for any purpose. If you have a specific legal question, please consult with an attorney in your jurisdiction who is competent to assist you.