Many think holding companies are only multi-million or billion dollar corporations, but fail to realize they can be useful for average investors looking to protect real estate, intellectual property or their privacy. This setup can also be called a parent-child company.
Many businesses setup a holding company structure to ensure their smaller companies are safe from creditors, or to minimize taxes and improve privacy.
This article discusses what a holding company is, what its purpose is, how to start one, and answers more questions that businesses have.
What is a Holding Company?
Holding companies own assets (real estate, stocks, etc.) of other companies and do not produce any products or services. Instead of manufacturing or selling products and services, the purpose of a holding company is to control companies, or subsidiaries, that offer goods and services.
Holding companies have one purpose – to own other companies. The parent company is not required to own 100% or even 50% of the subsidiary (a controlling stake). A personal holdco may have a small stake in various ventures to distribute risk and diversify income.
Advantages of Holding Companies
Grouping businesses together under a holding company provides unique advantages that they would not have when operating as separate entities.
Holding companies are still considered to be their own companies even though they control other companies. This ensures liability protection for members, as well as individual companies and assets of other companies.
When the correct tax forms are filed, a holding company can write off the losses of one subsidiary against the profits of another. This results in a lower tax bill for all companies involved and is referred to as income shifting. This can also be used to move income from a high to a low-tax jurisdiction.
Lower Debt Financing Costs
Being able to secure funding at a lower cost is one of the main attractions of a holding company. For businesses with less revenue, or new businesses, a holding company can pass down funding to the subsidiary.
Types of Holding Companies
Holding companies are commonly used in real estate, to isolate intellectual property (IP), e-commerce, to manage family assets and other investments.
If you’re looking to invest in a revenue-generating business or if you already manage multiple businesses, it’s worth looking into starting a holding company.
There is no one true definition of a holding company. Various industries, countries and people use the term interchangeably for a variety of purposes. Below are some commonly used definitions:
Pure - A “Pure” holding company is one that will not participate in other business activities. It exists solely to own other companies. It does not explore multiple ways to own other companies.
Mixed – Mixed holding companies are considered a holding-operating company because they engage in other operations while controlling other businesses. When mixed companies take part in other businesses aside from their subsidiaries, they’re called conglomerates.
Immediate – Immediate holding companies are holding companies controlled by another holding company. However, this type of holding company continues to retain voting stock.
Intermediate – Intermediate holding companies are both holding companies and subsidiaries. These types of holding companies come with an added layer of privacy as they’re exempt from publishing their financial records.
How to Set Up a Holdco
There is no one set structure for a holding company. Depending on the business structure, number of investors, employees, variety of assets, and more, the requirements for setting up a holding company vary. Typically, the process for setting up a holding company is the same as starting any business entity. You must have a unique name file Articles of Organization, pay associated fees, and meet the other state requirements.
Determining the structure for your parent company is the first step, Afterwards, you’ll need to obtain and EIN and open a separate business bank account to avoid comingling funds. Once paperwork and fees are finalized, you can form or transfer subsidiaries. This structure does create complexity and so may not be worth the additional effort for everything. It’s an option that business owners should discuss with an attorney to see if it’s right for them.
Disadvantages of Holding Companies
From registration and state fees to the costs for maintaining business, there are costs specific to holding companies. These costs can add up quickly depending on the number and types of subsidiaries under a holding company.
When a larger company owns and controls other companies with different business objectives, it’s bound to be a complex process.
Clash of Interest
To become a holding company, you only have to own 51% of a company’s shares. This means that other shareholders may disagree with your business decisions, and it could cause internal issues.
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