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US tax rules for a Delaware LLC

23 Monday Nov 2020

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If you are the owner of a Delaware Limited Liability Company (LLC), it is essential that you know what you have and what your responsibilities are. Requirements are in constant flux and need up-to-date procedures. If you have held your company for several years, current compliance obligations may be a far cry from what you started with. Failure to comply can be both time-consuming and expensive.

US Federal taxes

A legal Limited Liability Company (LLC) in Delaware with more than one member (shareholder) has a default status of a tax partnership. The LLC is not in itself a tax paying entity but passes any taxation on income and expenses to its shareholders as tax partners. These non-US resident tax members are responsible for assessment on any net profits at 30% of their US-sourced income.

As a non-resident owner of a Delaware LLC, foreign-sourced income is not assessable in the US. However, there are still strict reporting requirements. Members must file 1040 NR individual income tax returns even though there may be, in fact, no taxable US income. These annual reporting requirements were introduced in 2017. As part of the process, shareholders need Individual Tax Identification Numbers (“ITIN”) which can be obtained at the time of filing the tax declaration. Application for the ITINs involves submitting “apostilled” documentation including reporting on identity. Non-compliance carries a fine of $10,000.

Delaware State Taxes

Unlike most states in the US, Delaware does not require an LLC to file an annual report. However, companies must pay an annual “franchise” tax. By default, since LLCs are “pass-thru” tax entities, the responsibility for paying federal and state income taxes “passes thru” the LLC itself and falls on the individual LLC members (shareholders). Currently, the State of Delaware imposes a flat annual tax of $300 on LLCs. The levy is due on or before 01 June with a $200 penalty for late payments.

Under certain circumstances, owners of an LLC may choose to have their business treated as a taxable corporation. The State of Delaware, like almost every other state, taxes corporate income. Corporation income tax in Delaware is a flat 8.7% of federal taxable income.

“FBAR” compliance

If a Delaware Company has a financial interest in or signature authority over an overseas financial account, the US requires annual reporting to the Internal Revenue Service called “FBAR”. This obligation can undermine any element of confidentiality in addition to adding another on-going compliance commitment and cost. “FBAR” non-compliance is subject to a $10,000 penalty.

The Alternative

The litany of problems goes on and on. Redomiciliation can be an attractive alternative to the ever-growing list of headaches associated with Delaware LLCs. When a company moves its base of operations to Portugal, there is no asset transfer and no assessment takes place. Only the headquarters and effective management change. Assets remain securely within the Company. In addition, there is often an opportunity to uplift the share value of the LLC which can be doubly beneficial due to the fact that many Delaware companies understated share capital at the time of formation. Annual running procedures are stable, and costs are modest, often a fraction of charges for Offshore Companies.

US imposes reporting rules on Delaware Companies

27 Friday Jul 2018

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Revamped rules for Delaware Companies create new reporting obligations for owners and eliminate any vestiges of confidentiality that once made these offshore structures attractive for many property buyers. Effective since the beginning of 2017, Delaware Limited Liability Companies (LLCs) that are wholly owned by a non-resident now become subject to specific US reporting requirements. The changes are intended to provide the Internal Revenue Service with improved access to information that it needs to satisfy its obligations under tax treaties, information exchange agreements as well as to strengthen the enforcement of US fiscal laws.

New and existing LLCs need to obtain an “EIN” (US Tax Identification Number) and, in the process, designate a Responsible Person (beneficial owner). The LLC is seen as foreign-owned Disregarded Entity which exists for legal purposes but not for income tax purposes. This is a fiscally transparent company, meaning the US tax authority will “look thru” the company structure and assess the responsible person (beneficial owner) directly for any tax due on Reportable Transactions (chargeable events).

Reportable Transactions are “any exchange of money or property between the LLC and its foreign member, such as sale, assignment, lease, license, loan, advance, contribution, or other transfer of any interest in or a right to use any property or money.”  For example, under these rules, a Delaware Company engaging in holiday lets or long-term rentals with their Portuguese property now has reporting obligations both in the US and in Portugal.

The LLC needs to maintain books and records of transactions to track any payments or transfers of money, property or other reportable transactions between the disregarded entity and its member, whether such operations are direct or indirect. These records must be available for inspection by the US Internal Revenue Service (IRS) on demand.

Reporting Transactions

Reportable Transactions must be declared on form 5472. Failure to file this form on a timely basis incurs a fine of $10,000. If the form is submitted on time but is incomplete or inaccurate, it is considered to be late and is still subject to the $10,000 penalty.

After an LLC is dissolved, cancelled or liquidated, it must file a final Form 5472, including any distribution of assets to its member. If the LLC changes status by electing to be treated as a taxable company, or adds members, becoming a partnership, it still must complete a final Form 5472.

Conclusion

Coupled with “look-thru” changes in Portuguese CGT legislation in the 2018 Budget governing the taxation of foreign companies holding Portuguese properties, these additional US regulations make life more complicated – and more expensive – for Delaware Company owners.

While the US may not be a co-signatory to the Common Reporting Standard (the international tax information sharing agreement between 105 countries worldwide), Uncle Sam has his own ways of tightening the screws when it is in the United States interest to do so.

Redomiciliation to Portugal continues to be the best long-term alternative to this increasingly complex conundrum in Delaware. While the walls continue to close in on Offshore Companies in general and Delaware LLCs in particular, Portuguese Nominee Companies continue to be a rock of stability in an ever changing world.