In order to diversify risk, someone with multiple rental or other investment properties would likely be advised to place each property into a separate entity. This was traditionally achieved with the use of a corporation or limited partnership in years past. Recently, however, the limited liability company has quickly become the entity of choice for real estate holdings.

Placing high risk assets in separate entities, away from each other, and especially separate from low risk assets, defines asset protection. For example, someone who operates a demolition company through use of a corporation or LLC should not then place an investment rental property in the same LLC or corporation. Similarly, someone with a large amount of low risk assets such as cash, securities, etc. should not be advised to place those assets into the same entity as an ongoing business. But, adherence with the principle tenets of asset protection can be costly. Placing each parcel of real estate into separate entities incurs separate filing fees, and incurs additional legal and accounting fees in most instances.

There is, however, a solution to the increased fees associated with multiple filings: the Series LLC.
The Delaware LLC Act first authorized the creation of separate series within the same LLC. Under the Act, debts and other liabilities under the Delaware Act are enforceable only against the segregated assets in the particular series to which those assets have been placed. (Delaware Limited Liability Company Act, Section 18-215). The Delaware Act also states that each series may have different members, or the same members with different percentages than in other series apart of the parent LLC, providing flexibility for projects with multiple investors.

This combination allows a series to be treated in many ways as a separate and distinct LLC. The Act also authorizes the Operating Agreement of the LLC to designate a series of members, managers or other interests that have separate rights and duties with respect to specific LLC property.

Recently, the Illinois General Assembly has adopted an amendment to the Illinois LLC Act authorizing the creation of the series LLC. (805 ILCS 180/37-40). Similar to the Delaware Act, the Illinois Act states “the debts, liabilities and obligations incurred, contracted for or otherwise existing with respect to a particular series shall be enforceable against the assets of such series only, and not against the series thereof,….”. (805 ILCS 180/37-40(b)).

For Illinois real estate investors, this means you can create one parent LLC with multiple series to protect your assets, avoiding multiple state filing fees, legal fees and other professional costs associated with creating each separate LLC.

In order to create a series LLC, special language must be included in the Articles of Organization, which is filed with the Illinois Secretary of State. A Certificate of Designation for each series apart of the LLC must also be filed with the Articles of Organization.

But keep in mind, obtaining and preserving separate liability status requires that each series be operated as a separate entity. This means separate records should be kept for each series, with the assets of each series identified. Unfortunately, case law is largely undeveloped for the series LLC structure. This is especially true in Illinois. Without the benefit of judicial decision, many facets of the new series LLC legislation may be subject to reasonable difference in interpretation. For instance, some practitioners have argued that it is safe practice to provide each series with a separate bank account.

Also, an entity formed in one state cannot do business in another state unless it is first “qualified” to do business in the non-formation state. This is achieved by filing an application with the Secretary of State of the non-formation state and paying a foreign filing fee of some sort. Without qualifying to do business in the non-formation state, the entity may later incur penalties and other fees for not qualifying. Once an entity qualifies to do business in the non-formation state, it basically becomes subject to the non-formation state’s laws, presenting a problem for the series LLC structure.

If an LLC is formed in Illinois, and qualifies to do business in another state so that it can own real estate in that state, then that LLC becomes subject to that state’s law. The exception is the internal affairs and management of the LLC itself. The non-formation state will normally apply the law that is either designated in the LLC’s Operating Agreement or the laws of the formation state. But, this typically involves disputes between members as to how the LLC is owned or operated and does not include disputes with creditors or third-parties who are not a party to the operating agreement. Any state without Series LLC legislation is very unlikely to apply the Series-legislation as to creditors, claimants, and other third-parties who did not agree to be bound by the Series legislation.

This problem is why corporations, LLCs, and other entities formed in other states probably don’t offer any advantages over those formed in the state where property will be held or business is conducted. Effectively, doing this doubles formation fees and non-formation law will apply anyways.

Regardless of any perceived disadvantages, this structure is quickly becoming the vehicle of choice for Illinois investors with multiple properties.

Tags: chase foreclosure, Illinois LLC., Series LLC

This entry was posted on Wednesday, December 30th, 2009 at 1:11 am and is filed under Legal . You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.