2022 Changes For Texas Series LLCs

The Limited Liability Company (“LLC”) has increased in popularity in Texas due to its personal liability protections and tax benefits, exponentially so after limited partnerships were made subject to the Texas franchise tax in 2007.  In 2009, Texas enacted legislation approving a “series LLC” (first established by Delaware in 1996). This is an excellent way for business owners to own multiple assets in a single LLC while separating liability. The assets of a Series LLC are allowed to be compartmentalized, isolated, and insulated from one another, without the headache of dealing with complex business structures with numerous entities, as was the case prior to the enactment of Series LLCs

Texas Series LLC Advantages

There are many advantages to the creation of a Series LLC. Pass-through taxation, reasonable start-up costs, streamlined administration, effective liability shields, and limited exposure to name a few.  Historically a Texas series LLC (the parent LLC), and every series created under the parent LLC, has been treated as a single legal entity. They pay one filing fee, register as one entity with the Secretary of State (“SOS”), and file one franchise tax report. All of which limited overhead costs and tax complications that can be associated with owning multiple LLCs. 

Texas Series LLC Disadvantages

There have also been some disadvantages to the operation of a series LLC, including increased record keeping, K-1 and tax treatment complications when multiple series have different ownership structures, uncertainty associated with the lack of case law and lack of Texas series LLC recognition by other states, and misunderstanding by lenders, title companies and others engaged in commercial transactions.  Regarding such lending, real estate and commercial transactions, while the parent LLC has essentially all of the flexibility, rights and opportunities as the standard LLC, a series of the parent LLC has not been able to obtain a certified copy of its certificate of formation, or a certificate of good standing (Certificate of Fact in Texas), because there was no such filing to be made with the Texas Secretary of State.  These types of publicly filed documents and certificates from the Secretary of State are generally required in commercial, lending and real estate transactions, making such transactions more difficult for any series when compared to a standard LLC or corporation. 

To address this misunderstanding, and seemingly in an effort to establishing greater commercial functionality, attractiveness, and transparency for series LLC operations, the Delaware Legislature amended provisions of the Delaware law to create a new type of series—a Registered Series LLC— in 2019.  Texas has followed suit, and changes to the Texas Business Organizations Code (the “TBOC”) will go into effect June 1, 2022 allowing for a “registered series”.  These changes will affect current and newly contemplated Texas series LLCs.

Changes to the TOBC

The changes to the TBOC do not appear to affect the statutory powers already granted to any existing series, there are no material governance changes in the amended law, and there is no change in the amended law regarding the protections afforded managers and members.  However, TBOC Sec.101.601 changes now include the phrase “or a protected series or registered series”, and will break the Texas series LLC into three categories: (1) registered series, (2) protected series, and (3) simply a series, being a series that is neither registered or protected.

Registered Series

Beginning June 1, 2022, a series may, but is not required to, become a “registered series” by filing a certificate of registered series with the Secretary of State and paying the associated filing fee. Under the amended law, a certificate of registered series must state (1) the name of the limited liability company; (2) the name of the registered series; and (3) if the registered series is formed under a plan of conversion or merger, a statement to that effect.  The amended law also has new naming requirements, requiring the phrase ‘registered series’; or the abbreviation ‘RS’ or ‘R.S.’, and that the name of registered series must contain the name of the company forming the series.  Of note, the name of a registered series must also now be “distinguishable in the records of the Secretary of State”, meaning the Secretary of State will likely reject a certificate of registered series if the distinguishability standard is not met.

Protected Series

Without such “registered series” filing, any series will be considered a “protected” series, so long as it complies with the other requirements of the series under the TBOC, essentially what is currently known simply as the series.  Under the amended law, if a series desires to be a “registered series”, and files the requisite certificate of registered series, such certificate will be an easily attainable and publicly filed document, and the Secretary of State will be able to issue a Certificate of Fact confirming the lawful existence of a series.  Theoretically, this will make commercial, lending, and real estate transactions less painful for a series.   

Looking Ahead

However, there are potentially negative consequences that could come from the amended law.  Lenders, title companies, and others engaging in commercial transactions will almost certainly prefer to deal with a registered series, if not eventually require such filing as a registered series to engage in any transaction.  Accordingly, those choosing the series LLC structure for its public record anonymity may lose the flexibility to maintain such anonymity and still engage in commercial transactions, or may be limited to cash transactions and obtaining lending from private, hard-money sources.

Also, the absence of fees and limited administrative and winding up costs will likely be eliminated for those choosing a “registered series”.  Under the current law, there were minimal fees and administrative costs associated with the formation of a series, and windup and termination was a generally internal process.  Under the amended law, a registered series will have initial fees and costs similar to those of the standard LLC, and when it is time to terminate or wind up the registered series they must go through the formal winding up process, including the filing of a certificate of termination with the Secretary of State.

Franchise tax considerations could also be a determining factor when considering the Texas series LLC structure under the amended law.  Historically, only the parent LLC has been required to file a single return, and the margin for all series were rolled up to the parent and totaled to determine franchise tax owed, if any.  However, under the new law, it is unclear if this advantage of the series LLC will remain, or if each “registered series” will be required to file its own return and determine its franchise tax separately, in addition to the parent LLC.

What to Consider

For existing Texas series LLCs, consideration should be given to correction instruments, particularly with regard to property, as the filing and new name as a “registered series” could be seen as a “material” change to documents of record.  Similarly, it is likely worth considering amending any series agreements, if such series is going to file to become a “registered series” with the Texas SOS, to accurately reflect its designation.  For existing and newly contemplated series LLCs, correctly and specifically identifying a “protected” or “registered” series will be prudent in all agreements and signature blocks.

Historically, the key justifications for using the Texas series LLC were the ease of creation and documentation, and the absence of fees. It has been seen as an alternative to creating a large number of separate LLCs, and many investors and business owners used the Series LLC to hold individual investments, real estate properties or other assets under one LLC umbrella while maintaining the protection of multiple entities.  Though the recent amendments could very well improve the commercial functionality of each individual series choosing to become a registered series, it may also eliminate some of the historical justifications for using the series LLC.  The increased formality in creating (and winding up) a registered series, and the greater scrutiny on documentation, certainly diminish the administrative ease of the Texas series LLC. While this may be advantageous for some, and not for others, the changes to the TBOC will likely affect whether the series LLC is the preferred structure for your business going forward.

The lawyers of Musgrove Law Firm, P.C. are available to assist our clients with complex business; federal, state and local income tax 2022; Mergers & Acquisitions; intellectual property; and real estate and estate planning matters among our specialties. Our goal is to be not only excellent lawyers, but true business partners with our valued clients. Contact us today to schedule a consultation regarding your business and tax matters.