Tax advantages of a holding company include not having to file different tax returns for each holding company. 3 min read updated on July 26, 2024
Tax advantages of a holding company include not having to file different tax returns for each holding company. A holding company comprises a limited liability company, parent corporation, or limited partnership that owns sufficient voting stock in another business to control management and policies. Holding companies exist for the sole purpose of controlling another business, which may be any legal entity, rather than for the reason of producing its own services or goods. The primary function of a holding company is to own property and assets; and this could include intangible property, such as copyrights and other intellectual property.
Such assets could come in the following forms:
- Corporations
- Limited liability companies
- Private equity funds
- Limited partnerships
- Hedge funds
- Traded stocks
- Song rights
- Trademarks
- Copyrights
- Patents
Holding companies can retain anything that’s of value, whether tangible or intangible. To use an example, the following companies are placed under three categories:
- Medical devices
- Consumer health care
- Pharmaceuticals
Holding Company Examples
Companies stand alone in nearly every nation, which are staffed by local owners and have their own facilities. When it comes to big companies like Johnson & Johnson, the stockholders choose a board of directors to safeguard interests. For instance, Johnson & Johnson holds ownership interests in roughly 265 individual businesses the same way you may own shares of different companies via a brokerage account. The board, among other duties such as assessing dividend policy, hires a CEO. The CEO then hires direct subordinates. The group of individuals, in unison, has the power to pick CEOs and other important executives at the companies.
Johnson & Johnson utilizes this function, allowing other personnel to take charge of the many companies under the holding company. If a company is 100 percent owned by holding companies, it is known as a wholly-owned subsidiary. In terms of operation, the subsidiaries and holding companies function as individual companies.
The parent holding companies boost the subsidiaries through the decrease of costs of capital and overall health of the company. Using downstream guarantees, parent companies make loan pledges on behalf of subsidiaries. Therefore, it can issue bonds at bottom rates, and issue money to its own subsidiaries at rates that a subsidiary could not get on its own.
This is because when backed by a holding company, the subsidiary’s risk of defaulting is less. One of the most successful and largest holding companies, Berkshire Hathaway, is owned by investor Warren Buffett. According to the IRS, you must meet two qualifications to be a holding company:
- Five or fewer people, whether directly or indirectly during six months of the taxable year, must own over 50 percent of the outstanding company stock.
- At least 60 percent of adjusted gross income may come from rents, dividends, royalties, and interest.
Holding Company Advantages
Such a structure can offer the business vital advantages over operating under a single business entity:
- Risk Management: Assets that are categorized into distinct businesses. When properly administered, product liability claims may be limited to the assets of a sole subsidiary. Riskier operations may be separated. Therefore, a major business may commence a structure as a holding business with a single subsidiary to own its trademarks, brand name, and another to own real estate, and another to own equipment. This means that each holding company and subsidiary holds limited liability
- Transfer Ease: Holding companies allow for a simple sale of a service or product line. A single line may be sold through the selling of the subsidiary. Without a holding company, sales may mandate additional due diligence for a buy or could show trade secrets that are not related to a service or product line.
- Patent Licensing: IP and other patents may be boiled down by territory or industry. In such an instance, the property may be licensed for multiple reasons to various entities.
- Tax Advantage: 100 percent owned subsidiaries may be treated as disregarded entities for tax reasons. This means that no different tax returns must be filed, yet limited liability and corporate safeguards can be maintained for business reasons.
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FAQs
Tax Advantages
How do taxes work with a holding company? ›
Here are some general IRS tax implications for holding companies: Corporate income tax: Holding companies are typically subject to corporate income tax on their income, which may include dividends, interest, rental income, and capital gains from the sale of assets.
What is the downside of Holding companies? ›
Disadvantages of holding companies
A holding company's majority control of a subsidiary allows it to appoint its own directors, management team and officers who can promote the holding company's interests. This comes at the expense of minority shareholders, who may get shut out from the decision-making process.
Is there a benefit to having a holding company? ›
Lessen liability
Entrepreneurs typically form a holding company to limit liability risks when owning multiple businesses. Each subsidiary is protected from the legal claims against and debts of the other subsidiaries.
How can a personal holding company reduce taxes? ›
To decrease accumulated PHC income:
- Cash in some securities and reinvest the funds in stocks that have growth potential but do not regularly pay dividends.
- Pay dividends to stockholders (dividends can even be paid 2½ months after year-end if you make a special election)
- Limit your passive investments.
When cash is distributed to shareholders as dividends, shareholders pay additional taxes on the dividends. This is known as "double taxation" and it used to be a much bigger deal when corporate taxes were higher.
What are the tax implications of a personal holding company? ›
In addition to the 21% corporate income tax, a PHC's undistributed personal holding company income (UPHCI) is subject to a tax of 20% for each tax year. Passive income sources, such as dividends, interest, rent, royalties, and annuities, are used to calculate the UPHCI.
Why use a holding company for LLC? ›
A holding company needs to control its subsidiaries but doesn't necessarily need to own all shares or membership interests. That allows the holding company to obtain control of another company and its assets at a lower cost than if it had acquired all of the subsidiary's ownership interests.
What is the risk of holding company? ›
There are some disadvantages to owning subsidiaries through a holding company. For investors and creditors, it may be difficult to find an accurate picture of the overall financial health of the holding company. It is also possible for unethical directors to hide their losses by moving debt among their subsidiaries.
Should a small business have a holding company? ›
Most small business owners will find holding companies to be more trouble than they're worth. Unless you have multiple profitable companies with many assets you want to protect, you'll likely be better off with a simpler structure, such as forming multiple LLCs.
A holding company can make money via its subsidiaries, income from assets, royalties, or leasing/loaning assets to 3rd parties or subsidiaries as desired.
Does a holding company need an EIN? ›
All corporations must have a federal tax ID number to do business, and there are only rare situations (a holding company that does not pay tax of any kind) where an LLC wouldn't need an EIN. Your tax ID number will be required to fill out payroll reports, pay taxes, open a business checking account, etc.
What is the best corporate structure for a holding company? ›
You can organize a holding company as a limited liability partnership or a corporation. If you choose the corporation route, you must comply with your state's laws governing corporations. This usually requires a board of directors and an operating agreement that controls the corporation's functions.
How do holding companies avoid taxes? ›
The main tax advantage of a holding company is that it does not have to file different tax returns for each subsidiary company. Generally, subsidiaries can pay dividends to the holding company without creating a tax liability.
How do I classify a holding company with the IRS? ›
A corporation will be considered a personal holding company if it meets both the Income Test and the Stock Ownership Test. The Income Test states that at least 60% of the corporation's adjusted ordinary gross income for the tax year is from certain dividends, interest, rent, royalties, and annuities.
Can a holding company own less than 50? ›
A holding or parent company may own a smaller stake, including less than 50%, as long as it gives the subsidiary's managers day-to-day control.
How do you pay yourself from a holding company? ›
To pay yourself a salary, you need to set up an employment agreement with the corporation and become an employee. You'll receive regular paychecks like any other employee, and taxes will be withheld from your salary. Alternatively, you can receive dividends if the corporation generates profits.
Do you have to pay taxes for holding stocks? ›
Do you pay taxes on stocks you don't sell? No. Even if the value of your stocks goes up, you won't pay taxes until you sell the stock. Once you sell a stock that's gone up in value and you make a profit, that's when you'll have to pay the capital gains tax.
Do I need an EIN for my holding company? ›
All corporations must have a federal tax ID number to do business, and there are only rare situations (a holding company that does not pay tax of any kind) where an LLC wouldn't need an EIN. Your tax ID number will be required to fill out payroll reports, pay taxes, open a business checking account, etc.
