What is a Foreign LLC or Foreign Corporation, and Why Should You Care?

Domestic Company

In the United States, when a company (whether a LLC, S-Corporation, C-Corporation or non-profit) is formed, it is formed in a one state and considered a “domestic company” in that state.

For example, if someone is interested in forming an anonymous LLC in New Mexico, that anonymous LLC will be considered a “domestic New Mexico limited liability company (or LLC),” which entitles that LLC to conduct business in New Mexico.

Domestics, Abroad

Chances are you would like your business to expand as needed. You want to scale up and expand. But how can you make sure that your expansion does not violate your corporate structure?

A domestic company may conduct business in other states but is required to register within that state (even though it is already a domestically registered company in a different state). Such a registration is called a “foreign registration” in other states. Therefore, if we start conducting business in California with our New Mexico based anonymous LLC, we must register our LLC as a “foreign LLC” in California.

Definition

A foreign limited liability company, or foreign LLC, is defined as a LLC that was formed in one state (i.e. its domestic state) and registered in other states because it is transacting business in those other states. The foreign registration tells the appropriate state or states about the company and where it’s domesticated, permitting it to conduct business in that state.

Penalties

Doing business in another state can be confusing. However a business that is not registered to do business in a particular state opens itself to a host of possible problems and pitfalls.

First, most states have some form of monetary penalty. For example, California can impose a penalty of $2,000 per taxable year if an out-of-state LLC is doing business in California and fails to file a tax return and pay the taxes and fees due. In New Mexico, the penalty is $200 per taxable year.

Second and more importantly, most states have some form of limitations on an unregistered foreign company’s ability to bring suit or enforce a contract. In California, any contract between an unregistered foreign LLC that is neither qualified to do business nor has a corporate account number from the California Franchise Tax Board is voidable by any other party to that contract for the period during which the unregistered foreign LLC fails to file a tax return required by the California Franchise Tax Board. In New Mexico, contracts are not voidable with an unregistered foreign LLC, but such a company may not maintain an action, suit or proceeding in a court of New Mexico until it has registered in New Mexico.

Third, doing business in a state without registering your company as a foreign entity could expose the owners, agents or employees to personal liability. In New Mexico, 53-19-53(G) states that “A member or manager of a foreign limited liability company is not liable for the debts and obligations of the limited liability company solely because such company transacted business in New Mexico without registration,” although this doesn’t necessarily apply to specific harms (i.e. breach of contract or civil wrongdoing) performed by individuals on behalf of the LLC. California does not have a similar statute.

What does it mean to “Conduct Business”?

By now you are probably wondering what it means to ‘conduct business’ in a state. Unfortunately each state has its own rules on what it means to be conducting business, some not very black and white. You should consider some high-level criteria. If you think you come close to meeting any of these for any particular state, you owe it to yourself to find out what the specific rules are for each state.

Does your company _________?

• Own real or tangible property in a state?
• Employ one or more people (as W2 employees) in a state?
• Operate a retail outlet or store in a state?
• Obtain a substantial portion of its revenues (25% or more) from a particular state?
• Have a substantial portion of its operations within a particular state?

If you answered “yes,” “maybe,” or “possibly” to any of the above questions for a state that is NOT the domestic state of your company, then you should evaluate the specific state requirements and determine whether foreign registration is required. Note that “doing business on the Internet” in of itself, does not necessarily trigger foreign registration requirements unless there’s more.

It’s very difficult to provide a specific set of rules for all states. Each state is different. For example, New Mexico does not define “transacting business,” although there is a New Mexico statute (53-19-54) that defines what is NOT transacting business in New Mexico. In particular, “the following activities of a foreign limited liability company, among others, do not constitute transacting business within the meaning of the [New Mexico] Limited Liability Company Act:”

1. maintaining, defending or settling any proceeding;
2. holding meetings of its members or carrying on any other activities concerning its internal affairs;
3. maintaining bank accounts;
4. maintaining offices or agencies for the transfer, exchange and registration of the foreign limited liability company’s own securities or interests or appointing and maintaining trustees or depositories with respect to those securities or interests;
5. selling through independent contractors;
6. soliciting or obtaining orders, whether by mail or through employees or agents or otherwise, if the orders require acceptance outside New Mexico before they become contracts;
7. creating as borrower or lender or acquiring indebtedness or mortgages or other security interests in real or personal property;
8. securing or collecting debts or enforcing rights in property securing debts;
9. investing in or acquiring, in transactions outside New Mexico, royalties and other nonoperating mineral interests; executing division orders, contracts of sale and other instruments incidental to the ownership of such nonoperating mineral interests; and, in general, owning, without more, real or personal property;
10. conducting an isolated transaction that is completed within thirty days and that is not one in the course of repeated transactions of a like nature; or
11. transacting business in interstate commerce.

Further, “a [New Mexico] foreign limited liability company shall not be considered to be transacting business in New Mexico solely because it:”

1. owns a controlling interest in a corporation or a foreign corporation that transacts business in New Mexico;
2. is a limited partner of a limited partnership or foreign limited partnership that is transacting business in New Mexico; or
3. is a member or manager of a limited liability company or foreign limited liability company that is transacting business in New Mexico.

Contrast the above New Mexico rules with California. In California, a LLC is “doing business” in California if (including factoring in revenues from pass-through entities):

1. The LLC is commercially domiciled in California (i.e., California is the place where most of the control of the LLC is centered)
2. Sales, including sales by independent contractors, in California exceed the lesser of $500,000 or 25% of the LLC’s total sales
3. Real or tangible property of the LLC in California exceeds the lesser of $50,000 or 25% of the LLC’s total real and tangible property
4. The amount paid in California by the LLC for compensation exceeds the lesser of $50,000 or 25% of the total compensation paid by the LLC

Care about a state other than New Mexico? We have another blog article you may be interested in, entitled When to Register Foreign LLC, which has a reference to ALL STATE’S LAWS at the end of the article. Pick your state, and it will show you the relevant state law and what it says.

Issues with Foreign Registration

The rush to file in another state that is not your home state should be done carefully. Delaware provides many advantages for companies registering there as their domestic state, including use of Delaware’s Court of Chancery. However, if you’re doing business primarily in your home state, you will probably have to register as a foreign company in your home state, even if you register your company in Delaware.

Similarly, many owners like to register companies in Nevada and Wyoming in an attempt to avoid state income taxes. However, most owners forget that if their business is primarily in their home (or another) state, they will be required to register as a foreign company and as such, will end up paying state taxes. Most states tax domestic and foreign corporations on taxable income derived from business activities apportioned to the state on a formulaic basis, and many states apply a “throw back” concept to tax domestic corporations on income not taxed by other states. Seeking the advice of an accountant or CPA can help you understand your state’s particular tax code and treatment in such instances.

Finally, back to anonymous LLC’s. Anonymity protection is only as good as the foreign LLC requirements of the states you are primary “transacting business” or “conducting business.” Many states will require disclosure of the members of a LLC, when filing a foreign LLC, therefore consider these issues in your home state, before relying on an anonymous LLC.

Law 4 Small Business. A little law now can save a lot later. Ask L4SB to help setup your foreign LLC or foreign corporation in any state, or ask L4SB for advice on the specific requirements for your home state.