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The traditional Texas LLC has long been a favorite of real estate investors and others. Recently, however, a new type of LLC – the Texas Series LLC – has become available and has quickly become the preferred way to own multiple properties and businesses. The Texas Series LLC - like traditional Texas LLC’s, corporations, and limited partnerships - is governed by Title 3, Chapter 101 of the Texas Business Organizations Code (“BOC”). Changes to the BOC in 2009 by the 81 legislature st have made the BOC a model of progressive legislation and improved Texas’ already deserved reputation as an excellent place to do business and engage in asset protection.

The Texas Series LLC allows an investor to hold compartmentalize assets and liabilities within separate “series” which effectively operate has sub-companies. The Texas Series LLC shares characteristics with the traditional Texas LLC, including the benefit of informal management, an effective liability shield, and pass-through taxation; but the Texas Series LLC also has the ability to segregate assets and insulate them from liability arising from other assets within the same company.

Is the Texas Series LLC risky because it is a new vehicle? No. The series company has been around for many years in Delaware. It has been widely used nationally and has a solid, court-tested track record.

Lawyers are frequently asked two questions: How many LLC’s do I need? How many properties can I safely hold in one LLC? The Texas Series LLC eliminates these issues for most clients. It is an ideal asset protection tool because it has a liability barrier and it simplifies the lives of its members, who no longer need multiple companies to do business.

Attached to this article is a checklist that will help you assemble the information necessary to begin forming a Texas Series LLC.

Clients occasionally ask if they should form a corporation. While the corporate format is still available, real estate investors and small businesspersons generally are better advised to utilize an LLC, which combines the best of a corporation and a partnership.

General partnerships and trusts are also the subject of inquiry. These are useful structures, but should in most cases be used in conjunction with an LLC. Why? Because an LLC has a liability barrier. General partnerships (sometimes called “tenants in common” arrangements in other states) and trusts do not.

Limited partnerships (with a corporation or LLC as a general partner) have a liability shield but are more complex structures suitable for acquiring shopping centers, apartment buildings, and the like.

The advent of the series structure in Texas makes both the traditional LLC and the SCorporation obsolete for most purposes. In fact, a traditional LLC or corporation should be considered only if the intent is to hold a single business or property with a single purpose.

There are lots of good reasons to form a Texas Series LLC as part of an asset protection plan. The main reasons are (1) using the company liability barrier to minimize personal exposure and maximize asset protection; (2) organizing and managing one or more businesses; (3) tax benefits including one-time taxation of members’ profits; (4) achieving a measure of anonymity; (5) credibility with the public, which may be helpful when engaging in “creative” transactions (wraps, land trusts, and the like); and (6) compartmentalization of assets and liabilities.

A Texas Series LLC is also a useful device for organizing your business, particularly in separating your business from personal affairs. Failing to do this is a common mistake of novice investors and can create legal and accounting problems. Running business income and expenses through your personal account may not be illegal, but it can complicate your defense if you are sued. It will be alleged that you “commingled funds.” Again, this may not always be contrary to law, but it will arouse the suspicion of the judge and jury and may result in your defense failing what trial lawyers call the “smell test.” This sort of error can also result in your being held personally liable for damages. Why risk it? Set up an operating account in the name of your LLC (or, if you wish, in the name of each series) in which all income and related expenses are clearly shown, coded separately for each of your properties. A separate account for tenant security deposits is advisable.

If you get sued it is very likely that you will be asked for an accounting and to produce your bank statements. Being prepared for this is an essential part of your asset protection strategy. Anonymity is a key part of asset protection. It should not be a simple matter for a plaintiff’s attorney to discover the true ownership of your company, what its assets are, or where those assets are located. Ideally, the personal name of a company owner or member should never appear on any deeds or leases, and a tenant should never write a check to a member personally. There is an old rule that people tend to sue whomever they write their checks to. Make sure that is never you.

It has been reported that a new lawsuit is filed every 1.3 seconds. Literally millions of lawsuits will be filed this year. Many will award huge damages for such things as serving coffee that is too hot. In this legal environment, asset protection is a serious matter, and the Texas Series LLC is an excellent tool for achieving it.

The Company Name

In setting up a Series LLC, one of the first things to consider is a company name – and whether or not it is available. Unfortunately, the easy names tend to be taken, so you will need to be creative. You can get name availability information by calling the Texas Secretary of State at (512) 463-5555. You may also visit them at www.sos.state.tx.us. A series LLC need not have the word “series” in its name.  The filing fee (including the special handling for rapid response) is $325.

When you have an available name, contact your attorney and tell him who the original members are going to be and what percentage of ownership each will have. Generally, Texas LLC’s have a managing member or co-managing members, although it is also possible to hire a manager who is not a member. Who will be serving in these capacities?  You will also need to choose a registered agent with a physical address (not a PO Box) in Texas. The registered agent will receive official company mail from the Secretary of State, the Comptroller, and anyone who is putting the company on formal legal notice. He is also the person who is served with process if the company is sued.  This office will serve as your registered agent for an annual $250 fee.

Setting up the LLC

All Texas Series LLC’s are not created equal – basic “no frill” filings and company agreements do not contain key asset protection provisions. Your goal should not be to merely “set up an LLC.” Your goal should be to establish a Texas Series LLC that includes sophisticated asset protection provisions in its Certificate of Formation, Company Agreement, and the Minutes of First Meeting of Members. It should also have a company book with a seal and membership certificates.

There are no universally accepted “standard forms” for establishing and documenting an LLC
– regardless of what internet services may say or imply in the promotion of their highly simplistic documents.  Use of an internet service to form an LLC should not be considered by any serious investor or business person. If it is worth setting up an LLC in the first place, then it should be done with maximum effectiveness relative to the company’s purpose and the desire of its members for asset protection.  Here is what internet services do not provide:

Still think internet services are a good deal? Then you should know that the documents provided by such services are so simplistic as to be barely above the level of junk. This office spends a fair percentage of its time cleaning up the inadequacies in companies formed this way and offering asset protection advice that the client should have received from the beginning. A Texas Series LLC should be formed by a knowledgeable attorney as part of an overall asset protection plan.

What is a “Series?”

The company must be specifically established as a Texas Series LLC. A series is a compartment in which properties or businesses are held separately and distinctly from the assets held by other series in the company.  In other words, Series A could contain a rental fourplex; Series B could contain a strip center; Series C could contain a business that buys and sells real estate notes; series D could contain a general contracting business; and so on.  Whether or not it is advisable in any specific case to “mix and match” like this is an issue that needs to be carefully examined on a client-by-client basis; nevertheless, the point is that all of these enterprises can be contained within the same company while maintaining the insulation of each asset from the liabilities associated with the assets of other series.

Let’s look at a common example: suppose there was foreclosure on a property contained in Series A, and there was a deficiency at the foreclosure sale (i.e., the property sold for less than the amount owed).  The lender then sued and obtained a deficiency judgment.  Assuming that the company and its transactions were properly structured, the judgment would be enforceable only against Series A assets - not against the assets of Series B, C, or any other series.

The series are, in effect, sub-companies and there is technically no limit to the number of series a company can have, although prudence might dictate that there is a reasonable limit to the number of properties one might to hold in a single LLC - even a series LLC.

What if you currently have only one property or business? No problem. It is not necessary that you already have multiple properties or businesses to form a series LLC. You can delay implementation of additional series until other properties are acquired.  As you buy them, you can establish additional series - and no filings with the Secretary of State are necessary.

Location, Location, Location

Now that Texas has a Series LLC, it is difficult to conceive of a good reason for investors to form any other type of company or go to any other state to do it. Prior to the 2009 changes in the BOC many Texans formed their companies in Nevada or Delaware. This no long has the benefits it once did; actually, it has no benefits at all for most investors - particularly since “foreign” (i.e., out of state) LLC’s are required to pay a stiff fee to the Texas  Secretary of State and maintain a registered agent with a physical address (not a PO box) both in Texas and the state of origin. Accordingly, it is recommended that a Texas company be used – unless one intends to take that additional step of going offshore (e.g. Panama, The Caymans, or Hong Kong), which is a valid and effective way to go for the more adventurous investor.

A Texas Series LLC can own any type of property anywhere in the world.

A word about the company’s registered address: some people go to the trouble of forming a Texas LLC but then list their home as the registered address. This hardly enhances anonymity, nor does it prevent a constable from knocking at your door at 5:30 a.m. to serve a lawsuit.  Either use your office address, if you have a physical office; use your attorney as registered agent of the company ($250 annual charge); or go to a UPS store and obtain a box with a street address and “suite number” (so the Secretary of State will not reject your filing). Tenants, vendors, contractors, and the public at large should never have your homestead address.

If you are considering an offshore entity, this office favors either Panama (which uses the U.S. dollar) or the Cayman Islands (its currency is the British pound).  Offshore LLC’s are an excellent asset protection tool and are entirely legal so long as it is not your intent to use them to avoid paying federal income taxes.  Asset protection is not only legitimate, it is the smart thing to do; tax evasion is not.

Company Documents

It is critical that your attorney draft the series LLC’s governing documents so that they discourage  creditors from even contemplating the seizure of your membership interest. Asset protection provisions should be included from the outset in the certificate of formation and then extensively set out in the company agreement.   Basic “plain Jane” documents (such as those available online) do not maximize asset protection and should never be used.

The certificate of formation is the initial document that is filed with the Secretary of State. It supplies the essential information required by the BOC in order to establish a Texas Series LLC. But that is not all. It should also put the public on notice of certain key asset protection provisions. The certificate must be accompanied by the $300filing fee. Paying an extra $25 fee for special handling expedites the process.

The company agreement is the heart of the company. It should be customized to fit the client’s business plan and maximize asset protection. It is not recorded with the Secretary of State.

The company agreement should provide for two classes of membership interest, one for “regular members” and another for those who acquire their interest by means of collection, assignment in satisfaction of a debt, or execution on a judgment. The latter should not be able to vote that interest; not be able to serve as a manager or officer; not be able to direct that assets of the company be sold; not be able to alter or reduce the company’s ability to do business; and not be entitled to distributions unless all members unanimously agree. The objective is to discourage a creditor from going after your membership interest, since it will be essentially worthless to him.

The company agreement should provide that decisions beyond the scope of day-to-day operations should be made by majority vote, but “major decisions” (e.g., the sale or encumbrance of Company assets) require consent of members holding at least a two-thirds membership interest. Some decisions, including those involving dividend distributions, should require a unanimous vote of members.   It is vital that a clear division be made between decisions that require a simple majority, a super-majority (two-thirds), and unanimous approval.

Each member should have a right of first refusal to purchase the interest of every other member. Including a provision of this kind is critical to the successful operation of a small company.

Members and Management

The owners of a Texas LLC are referred to as “members” rather than shareholders or partners.  A Texas LLC may be formed by one or more persons.  Members may be individuals, partnerships, other LLC’s,  corporations, and/or any other type of legal entity. LLC’s generally operate through a managing member or co-managing members (a frequent arrangement for husband and wife) although officers such as a president and secretary may also be elected if the company agreement so provides.

In order to maintain the viability of the company as a separate legal entity that provides a liability barrier for its members, the members should meet at least once a year.   The first meeting of members (also called the organizational meeting) should include approval of the details of the certificate of formation and the company agreement.  Annual meetings in successive years should review and ratify the preceding year’s actions by the company and its managing members, recognize any unusual events or circumstances, and elect new managers. It is also advisable to hold special meetings to approve any “major decision” as defined in the company agreement;  approve the purchase or sale of real property, approve a loan to the company, or accept new members and realign the members’ respective percentage interests.

Company Identity and Maintenance

A Texas LLC, like a corporation, is a distinct legal entity with a life of its own. It has its own rights and duties. It has its own TIN along with its own legal rights and remedies. However, it requires maintenance and continued respect in order to maintain its independent status.  It may be your company, but it must still be treated at arms length for legal purposes. You must undertake certain actions to preserve its separate character, and it is vital that you do so if you wish to avoid personal liability for the actions of the company or its agents and employees. The reason is the legal doctrine of “piercing the corporate veil.”  Unless the company pays its state and federal taxes, maintains a bank account, conducts regular meetings, keeps records, and the like, then in the event of a lawsuit, a court may decide you do not have a “real” company – the judge may then disregard the company’s existence and allow the plaintiff to proceed directly against the members/owners personally. It will be alleged by the plaintiff’s attorney that the company is a sham and nothing but the personal “alter ego” of its owners, designed to shield them from the consequences of wrongful conduct. Needless to say, this is a disaster and entirely defeats the purpose of forming an LLC in the first place.

Doing the minimum initial paperwork to file the company and paying a filing fee - and then not doing anything else to support the company’s existence - is not enough to maintain a liability shield over time. It will not protect you from a clever plaintiff’s lawyer who is determined to reach your personal assets or get a judgment against you individually.  Remember, that lawyer will be looking for deep pockets and hard assets, wherever they can be found.

Role of a Management Company

A business that deals with the public (e.g., a real estate investment company) should consider setting up a “shell” management or operating company that is unaffiliated with the asset-holding series LLC and which serves as the front line of defense against tenants, creditors, and plaintiff’s attorneys.  If you already have a traditional Texas LLC or corporation, and are wondering what to do with it now that a series LLC is available, this is an excellent use for it.

The management company should be essentially empty of assets. It should own no substantial amount of real or personal property - just its office furniture and equipment, although these can be leased – and it should be the entity that hires and pays employees who connect with the public. Any funds collected should pass through to the Series LLC.  Third parties should all do all business with the management company and should never even be made aware of true underlying ownership or the location of hard assets.  In other words, they should not even know that the Series LLC exists.

In addition to its management duties, the management company serves as a target that is deliberately put out there in public view in order to draw fire away from the owners and their assets. If anyone obtains a judgment against the management company, it will likely be uncollectible. Imagine the frustration of a plaintiff and his attorney after spending enormous time, money, and effort to get a judgment against this entity - only to find out there is nothing there.

The Basic Texas Asset Protection Plan

Although there is no such thing as a “bulletproof” plan to avoid personal liability or protect assets, you can get close. The Series LLC is an important step in getting there. The rule is this: the more fences a plaintiff and his attorney have to jump, and the more money they have to spend in order to get to you personally, the better protected you are. One way or another, plaintiffs have to pay their lawyers, and that means either cash or contingent fee - and few good lawyers will take a real estate fraud case on a contingent fee, particularly if they know they will have to penetrate a bona fide
Texas Series LLC before they can get to any real assets.

Our suggested asset protection plan in Texas is the following:

(1) establish a Texas Series LLC for investment properties and businesses;

(2) form a shell management company (this can be a useful for a traditional LLC if you already have one)
                       for dealings with tenants, vendors, and the public;

(3) file assumed name certificates (DBA’s) for the Series LLC and for the management company;

(4) transfer properties held in personal names to the Series LLC;

(5) reduce debt on the homestead, personal vehicles, and other exempt items;

(6) form a living (inter vivos) trust for the homestead to avoid probate and achieve a measure of anonymity.

The resulting structure involves two LLC’s (one to hold assets and one to deal with the public) and a living trust for the homestead.  Few investors or businesspersons need anything more exotic.

What if you have a company but are still sued personally?

Even if you have a properly constituted, operating LLC, you may still be sued in your personal capacity. Unless you have personally guaranteed indebtedness of the company, this is a form of lawsuit abuse – yet certain lawyers will do it anyway. Your lawyer should respond by sending out written discovery (including interrogatories and requests for production) to find out if the other side has any basis for holding you personally liable.  If no such basis exists, your lawyer should file a motion for partial summary judgment to have your personal name removed from the case as a defendant. He or she should also ask for attorney’s fees and costs for having to go through this process. If you have properly maintained your LLC, this motion should be successful. If not, this defense can be reasserted at trial. A related article on LoneStarLandLaw.com, Litigation in Texas, is recommended reading.

Moving Property into the LLC

Any and all investment property acquired or currently held in a personal name should be moved into the LLC by means of general or special warranty deed without delay.  A Texas Series LLC can hold different properties  and/or businesses in separate, insulated compartments – for example, title can be held in the name of “ABC LLC – Series A.” Properties owned by the company can be located in Texas or any other state.  For more details, see our companion article entitled Deeding Property to an LLC.

Clients occasionally wonder if transferring property into an LLC is barred if there is a “due- on-sale” clause in the lender’s deed of trust. Firstly, due-on-sale clauses do not actually forbid such a transfer; they merely give the lender the option of calling the note due if such a transfer occurs. This is very rare – it is a risk, but a small one. The lender may protest, but times are such that lenders are far more concerned with loans that are in actual monetary default (see Due on Sale Clauses in
Texas).

It is not advisable to transfer a Texas homestead into an LLC since the homestead is already protected by the Property Code against forced sale or execution upon a judgment. Also, as previously mentioned personal and homestead-exempt assets should be kept separate from investment assets. Read our article, Homestead Protections in Texas.

One factor that should be considered in deeding property into an LLC is whether or not the property is to be transferred with an assumption of the existing loan or “subject to” the existing loan (i.e., the LLC does not take liability for the loan). This choice has accounting implications, i.e., whether or not the company will in the future be carrying the loan on its books as a company debt. Most such transfers are “subject to.” An appropriate clause specifying assumption or “subject to” should be included in the deed.

State and Federal Taxes

An LLC differs from a conventional corporation in that it avoids “double taxation,” i.e., taxation on corporate profits and then taxation again when dividends are paid to the owners. Income passes through to the individual members of the LLC with only one taxable event. In this way, an LLC is treated similar to a partnership for federal income tax purposes.  Your LLC will need to obtain a TIN (taxpayer identification number) using an SS-4 form (supplied with our company book) or the TIN can be applied for online. The TIN will be required to open a bank account for the LLC (although banks will often open the account if the application is pending).

Each series may, but is not required to, elect its own tax treatment.

Although Texas does not have a personal income tax, it does have a franchise tax (also called the margin tax) that is imposed on all “taxable entities.” The statutory definition of a “taxable entity” can be found at Texas Tax Code Sec. 171.0002(b)(2), but it includes LLC’s.  The margin tax is basically a modified gross receipts tax, although some thresholds and deductions apply. A franchise tax return must be filed annually. Go to the Texas Comptroller’s  excellent website for more information: www.window.state.tx.us/taxes/.

Note that obtaining a TIN and filing tax returns are part of what an LLC must do in order to preserve its  status as an independent entity with a liability barrier that protects its individual members.

Offshore entities must report income and pay federal income taxes just as domestic entities do. The benefit to having an offshore company is in the area of asset protection – not tax avoidance, which is never OK in any jurisdiction.

Beyond the foregoing, this firm does not give tax advice. The best arrangement is to have a good real estate/business attorney and a good CPA who is familiar with small business operation in Texas – both of whom are “on call” for advice.

Use of Land Trusts and DBA Certificates

Anonymity can be enhanced by creating a land trust with the Texas LLC as primary beneficiary. The trust holds legal title to some or all company property. You may also wish to file a “DBA” (assumed name certificate) in the counties in which you operate, showing the name under which you will be publicly doing business. The DBA provides an alternate name for operational purposes; it does not create another company.

The goal is to promote anonymity. For example, the name of your LLC as registered with the Texas Secretary of State might be “ABC, LLC.” The company’s DBA, however, might be “Wilshire Investments.”  Therefore, the face you show to the public should always be Wilshire Investments. As a technical legality, Wilshire Investments cannot be sued since it is not a legal entity - any such suit would be dismissed upon motion by your attorney. A claimant would have to research the DBA records to discover the true legal entity, which is of course ABC, LLC, and suit would then have to be filed against the company and service would be have to be made upon the company’s registered agent.

The Homestead and Other Exempt Assets

It is neither necessary nor advisable to transfer a Texas homestead into an LLC since the homestead is  already protected by the Property Code against forced sale or execution upon a judgment. Homestead-exempt assets should be kept separate from investment assets. We recommend a living trust to avoid probate on these assets. See our companion articles Living Trusts in Texas and Homestead Protections in Texas.

Conclusion

Investors with multiple properties and/or businesses should consider forming a Texas series LLC.  It is recommended that you consult an attorney who will tailor his advice and documents to your individual investment and asset protection plan.  Questions relating to structuring an asset protection plan as well as follow-up questions on company formation are included in the legal fee charged by this office.  No internet service will do that.

Information in this article is proved for general informational and educational purposes only and is not offered as legal advice upon which anyone may rely. The law changes. Legal counsel relating to your individual needs and circumstances is advisable before taking any action that has legal consequences. Consult your tax advisor as well. This firm does not represent you unless and until it is retained and agrees in writing to do so.

THIS DOCUMENT IS NOT INTENDED TO BE USED, NOR CAN IT BE RELIED UPON, BY ANY TAXPAYER FOR THE PURPOSE OF AVOIDING PENALTIES IMPOSED UNDER UNITED STATE FEDERAL TAX LAWS. THIS DOCUMENT DOES NOT CONSTITUTE DOES NOT CONSTITUTE A TAX OPINION OR OTHER ADVICE TO WHICH CIRCULAR 230 IS RELATED.

Copyright © 2010 by David J. Willis. All rights reserved worldwide.David J. Willis is board certified in both residential and commercial real estate law by the Texas Board of Legal Specialization.

More information is available at his websites, http://www.LoneStarLandLaw.com. , http://www.TexasSeriesLLC.com and http://www.TexasAssetProtection.com

Our fees for forming a Texas Series LLC (subject to change) are $750 which include pre- formation strategies, extensive documentation, and follow-up legal advice.  Cost are the following: $325 filing fee, $80 for the corporate book including seal and membership certificates (our cost), and $10 UPS (ground shipping). Optional add-on fees are $175 plus clerk’s filing fees (usually $28) to deed a property into the new company; $250 annually for the attorney to serve as registered agent; and $550 (one time) if the attorney acts as organizer and managing member so that your name does not initially appear in public records.  Important: an attorney will not do this if there is any reason to believe that it is being done for purposes of fraud. If you are seeking to form an offshore entity, expect fees to be in the $2,500 range.

For more information on limited liability companies, read our articles on the subject.  Go to www.TexasSeriesLLC.com or www.LoneStarLandLaw.com.

If you are forming a traditional (non-series) LLC, the legal fee is $650.

These fees must be paid in advance.  Go to the “Make Payment” button (under “Contact Us”) on the website to use a credit or debit card.  If payment is made by check, it should be made payable to David Willis and overnighted to our dedicated registered agent address: 330 Rayford Rd., Suite 401, The Woodlands, TX 77386.

The attorney will be listed on the formation documents as the organizer (not the registered agent unless you request and pay the $250 fee – see below), since the certificate of formation must be signed by an “authorized officer.” 

The attorney is also available to serve as registered agent for an annual fee of $250. Another optional add-on fee is for listing the attorney only in the formation documents with the Secretary of State – as organizer, initial member, and registered agent – so that your name does not appear at all in these initial public documents.  After formation, the LLC membership interest is privately assigned to you. This “anonymity fee” is $550.

Another add-on is for a deed of real property into the company or into a specific series of the company.  THIS REQUIRES A PROPERLY DRAWN DEED.  IT IS NOT AUTOMATIC.  The fee is $175 per deed plus the county clerk’s per page recording fees (usually $28).

Company Name and Address:

Go to (512) 463-5555 (the Texas Secretary of State’s office) to check name availability - or go to   www.sos.state.tx.us.  All the popular, easy names are taken, so you will need to be creative.  You can always get a “DBA” certificate (filed with the Secretary of State or in your local county records) in your preferred name.

On the subject of the company address: This needs to be a physical address, not a post office box.  Note that UPS and other companies have mail centers where you can get a physical address.

______________________________________________________________________________

Note: conveyance of property or business into a series is not automatic as a result of forming the company.  It must be accomplished by a separately executed warranty deed or bill of sale which is not included in LLC formation fees. 

Note: this must be a physical address, not a PO box.  For anonymity, it is recommended that the home address not be used.  UPS stores with a street/suite address are a      suggestion.