Weekly Round-Up: A Closer Look at How States Will Treat Series LLC Employment Taxes

Despite a request by the IRS for input on proposed regulations for series limited liability companies, states have yet to decide how they will treat series LLCs for state employment tax purposes, according to a recent survey conducted by a task force of the American Bar Association Section of Taxation.

The states' indecisiveness casts a cloud of uncertainty over the administration of federal and state employment taxes and the IRS' attempts to facilitate taxpayer navigation of these tax regimes. As such, speaking at the ABA's 2013 May meeting, Bruce Ely, chair of the joint task force and of the SALT Practice Group at Bradley Arant Boult Cummings LLP in Birmingham, Ala., likened the uncertainty surrounding the use of Series LLCs to that of "placing a loaded gun in the hands of a child."

Limited Responses

The Department of Treasury and the IRS published proposed regulations on Sept. 14, 2010, that would modify current regulations to provide for the federal tax classification of Series LLCs. A task force of the ABA Tax Section Committee on State and Local Taxation and the Partnerships and LLCs Committee was formed in response to the IRS' request for comments on how series and series organizations will be treated for state employment tax purposes, and how that treatment should affect the federal employment tax treatment.

The task force asked the 50 states through a questionnaire, "Will your state treat each series as a separate employer?" In addition, the task force asked about the classification of Series LLCs for income and transactional taxes.

Of the 31 states responding to the survey, nine states indicated they would treat each series as a separate employer for state employment taxes, and five states would not treat each series separately. The remaining states either did not provide a response from the department or agency responsible for administering these taxes, or were undecided.

With respect to disregarded entities, 20 states responded that "even if a single member LLC is disregarded for federal income tax purposes, … [the] state currently treats the single member LLC as a separate employer (as the IRS does now) if it hires employees."

Will States Follow the Feds?

The states are indicating "they will follow the federal treatment," said Jimmy Long, associate with Bradley Arant Boult Cummings LLP in Birmingham, Alabama. "Federal treatment of single-member LLCs for employment tax purposes was revised only a few years ago, and shifted the reporting and liability for these taxes from the single-member owning the LLC to the LLC, itself."

Under state statutes, a Series LLC is generally defined as a master LLC (or series organization) whose organizing documents provide for separate sub-units or series, which operate as independent LLCs. Each sub-unit (series) has its own members associated with it, and may be managed separately from the Series LLC and other series. Each series has its own assets and liabilities, and is liable only for its own debts and obligations.

Characterizing the overarching Series LLC as "a wrapper of sorts," Leigh Griffith, tax partner at Waller Lansden Dortch & Davis LLP, in Nashville, Tennessee, observed that "the Series LLC may or may not have an economic interest in the series organized beneath it," and it "may conduct a wholly different business or no business at all."

Not for the Unsophisticated

"Basically, you have an organization that at times looks like one big entity and then sometimes, looks like multiple entities," said Joy C. Spies, IRS Senior Technician Reviewer in the Passthroughs & Special Industries Division and chief author of the proposed regulations. In seeking to put the series on "a parity with simply creating a new LLC," the proposed regulations use a separate entity analysis for each series formed under the Series LLC, which, in turn, is the starting point for entity classification under the federal check-the-box rules.

Thus, while state statutes may provide that each series underneath the Series LLC is not to be treated as a separate entity for state law purposes, a series meeting the criteria of a separate entity for federal tax purposes would be able to elect its federal tax classification. Those with more than one member could default to partnership classification or elect to be taxed as a corporation. Those with only one member would default to disregarded entity status or could elect corporate status.

Notably, Spies remarked that classification for federal tax purposes would not be affected by guarantee agreements between the separate series; nor would a series' failure to meet state record keeping requirements affect its separate entity classification. These factual issues affect liability under state law, not necessarily whether there is a separate entity. The Series LLC itself (as opposed to the series within the Series LLC) would also be considered a separate tax reporting unit independent of the various series within it, but would not be required to file a federal income tax return or information return under the proposed regulations, unless it has its own income, deductions, or credits, independent of the series within it, in any given taxable year.

Looking Forward

Ely emphasized that by moving forward expeditiously to finalize the proposed regulations, the IRS will go a long way toward helping the states focus more closely on their tax treatment of these entities. It would also appear that, should states choose not to follow federal entity classification for employment tax purposes, active and clear guidance will be required from the states to remove any potential for inconsistent treatment and to avoid taxpayer confusion and lack of compliance.

Article by Deborah Swann

In other developments…

2013 State Business Tax Burden Rankings , by the Anderson Economic Group.

Not So Fast: Tax Revenue Estimates From Legal Marijuana May Not Materialize , by Stateline, the Daily News Service of the Pew Charitable Trusts.

States aren't finding tax reform easy, either , according to Politico.

Gov. Jerry Brown unveils cautious budget for deficit-free state , by the Los Angeles Times.

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