Changing LLC Ownership: Sole Proprietorship vs Partnerships

Who is the Owner of My LLC?

When you first setup your US Limited Liability Company, you will need to determine how you want it to be set up for ownership tax purposes. This ownership structure is reflected in the EIN (employer Identification Number) that the IRS assigns to your LLC. There are 2 broad types of LLCs:

• Single Member LLC (Disregarded Entity/Sole Proprietorship)

• Multi-member LLC (More than 1 owner)

  • Option 1: Electing to be taxed as a disregard entity /partnership (2 - 100+ people)

  • Option 2: Electing to be taxed as a S Corporation or C Corporation

  
  

When a single member LLC is established, its sole member is the 100% owner. The owner can be an individual or another company, but the IRS 'looks through' any intermediary companies to find the end responsible party (real human being) for the LLC. The LLC may chose to engage someone else to manage the LLC on their behalf, but the ownership and tax liability passes through to sole member and is calculated at their personal income tax rate. The manager of a single member LLC may or may not draw compensation from the LLC, but they are not an owner/member of the LLC

When a multi-member LLC is can also be established as a disregard entity for tax purposes. Each year, multi-member LLCs file a 1065/K1 return to inform the IRS of how the LLC's income is allocated to each member. At establishment, the LLC must also disclose all member(s) holding a stake of 25% or more. This disclosure is made to both the Secretary of State and the US Treasury. Ownership details must be furnished each year in the LLC's annual report and within 30 days of formation on the BOI Report.

Any non-US member who holds 25% or more ownership should apply for an ITIN using exception 1a at the time of joining the LLC. An ITIN for each partner will need to be provided on the 1065/K1 report. Additionally, if you are attempting to open a US bank account, the bank will require the ITIN for each owner who holds a 25% ownership stake.

Starting in 2021, the Corporate Transparency Act has eliminated loopholes that allowed for LLC member anonymity. Whenever there is a change in ownership, members passport detais must be updated in a new BOI Report within 30 days of that change. Penalties apply for wilfully ignoring this.

Changing Owners for my LLC

After an LLC is established, it can legally transition from a single-member to a multi-member LLC and vice versa. However, certain forms need to be submitted to notify the relevant government authorities of this transition. To switch from a multi-member (partnership) LLC to a single-member LLC, the following procedure must be adhered to:

1. Minute the change and ensure that the member(s) relinquishing their stake have received consideration per the existing operating agreement. If consideration has changed hands, it may be considered a capital gain/loss for income tax purposes.

2. File to the IRS form 8832 notifying them of the change to a single member disregarded entity. File your final 1065 partnership information return for the year (part-year).

3. Adopt and sign a new single member operating agreement reflecting the new ownership as a disregarded entity, taxed as a sole-proprietorship.

4. Apply for a new EIN for the LLC reflecting its new single-member status. Ensure this new EIN is used for future trades/contracts and changed on all bank accounts.

5. File a new BOI Report to update the US Treasury on the new single member owner.

To change your single member LLC to a multi-member LLC, the process is mostly the reverse.

1. Minute the change and ensure that additional members contribute per the existing operating agreement This may be treated as a sales event to the sole member.

2. File form 8832 notifying the IRS of the change to a disregarded partnership for tax purposes.

3. Commence filing an annual 1065 partnership information return for the year (part-year).

4. Adopt and sign a new multi-member operating agreement reflecting the new ownership as a disregarded entity, taxed as a parternship.

5. Apply for a new EIN for the LLC reflecting its new multi-member status. Ensure this new EIN is used for future trades/contracts and changed on all bank accounts.

6. File a new BOI Report to update the US Treasury on the multi-member owners.

There is some administrative work involved in making the change apparent. Nonetheless, if you already have an LLC and recognize the long-term advantages of adding or removing members, there is a process available to facilitate this adjustment. Although this process requires time, it can be significantly less labor-intensive than shutting down your current LLC and establishing a new one.