Each year hundreds of Australian businesses establish US operations. The question which is most often asked by our clients is whether they should establish a Limited Liability Company (LLC) or a C Corporation.
We often find that clients proceed with the establishment of an LLC simply because it is cheaper and more cost effective than a C-Corporation but without really knowing the tax consequences of that choice. In this blog post we explain simply what an LLC actually is and describe the general tax treatment in the US and Australia.
What is an LLC?
An LLC is an innovation of American law. It is a simplified form of company which is established under the corporate laws of the relevant US State of incorporation. A US LLC is quite a different beast to an Australian company and it is a mistake to think of it in the same terms.
In America, an LLC is a Limited Liability Company, which has members (i.e shareholders) but does not have Directors. The importance of not having directors cannot be overstated. LLC’s are not managed by Directors, they are managed by the members or an appointed manager. This is completely different to an Australian company (which also has limited liability) which is managed not by its shareholders, but by its directors who owe statutory duties under Australia’s Corporations Act.
The ownership of an LLC is with the members who have membership interests in the LLC. You will not typically hear of an American accountant or attorney speaking about ‘shares’ in an LLC, but rather they will refer to the ‘membership interests’.
How is an LLC typically taxed?
In the USA if an LLC is chosen as a business structure the tax consequences are usually that the LLC is treated for tax purposes as if it was a partnership. This means that the profits are taxable to the members of the LLC, similar to the way that partners in an Australian partnership are taxable on the profits of a partnership.
Example (all names entirely fictional)
Pineapple Co LLC (“Pineapple”) is formed by two members who each own 50% of the interests in Pineapple. The two members of Pineapple are Geoff Gates, an American who lives in Park City, and Scott Cannon, an Australian who lives in Melbourne.
Assume that Pineapple makes $500,000 of net profit by the end of the tax year. By default, unless certain elections are made, Geoff and Scott would be taxable on $250,000 each. The LLC, Geoff and Scott would need to lodge income tax returns with the US Internal Revenue Service and include their share of Pineapple’s income in their tax returns.
If a loss had been made, then generally speaking each member, Geoff and Scott, would also be able to take their share of the loss.
What are the consequences for Scott the Australian?
For Scott Cannon, the consequences of having an LLC would simply be that he would need to include $250,000 in his Australian tax return as partnership income.
This treatment arises under Division 830 of the ITAA 1997 which treats an LLC, not as a corporation for Australian tax purposes, but rather as a partnership.
US income taxes are paid on Scott’s share of the LLC’s profits which would generally be claimable as a credit in Scott’s Australian tax return.
More complexity, but also more opportunity, would arise if Scott decided to hold his membership interest through an Australian company or Australian trust. That is something that Scott should take integrated Australian and US tax advice on before establishing the LLC.
If Scott is the sole owner of the LLC, and did not have an American partner then the LLC would be known as a sole member LLC. An LLC with a sole Australian member creates some significant issues namely that often partnership treatment under Australian law is not available creating potential double taxation between Australia and the US.
If you are an Australian resident and need advice in relation to a US LLC please contact CST.