Limited Liability Company (LLC) FAQ

Do I need to know about securities laws to set up an LLC?

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Do I need to know about securities laws to set up an LLC?

If you'll be the sole owner of your LLC and you don't plan to take investments from outsiders, your ownership interest in the LLC will not be considered a "security," and you don't have to concern yourself with these laws.

For co-owned LLCs, however, the answer to this question is not so clear. A security is an investment in a profit-making enterprise that is not run by the investor. If a person invests in a business with the expectation of making money from the efforts of others, that person's investment is generally considered a "security" under federal and state law. Conversely, when a person will rely on his or her own efforts to make a profit (that is, he or she will be an active owner of an LLC), that person's ownership interest in the company will not usually be treated as a security.

How does this apply to you? Generally, if all of the owners will actively manage the LLC -- which is typical in most small start-up LLCs -- the LLC ownership interests will not be considered securities. But if one or more of your co-owners will not work for the company or play an active role in managing the company -- as may be true for LLCs that accept investments from friends and family or that are run by a special management group -- your LLC's ownership interests may be treated as securities by your state and by the federal Securities and Exchange Commission (SEC).

If your ownership interests are considered securities, you must qualify for an exemption from the state and federal securities laws before the initial owners of your LLC invest their money. If you don't fall within an exemption to the securities laws, you must register the sale of your LLC's ownership interests with the SEC and your state.

Fortunately, smaller LLCs, even those that plan to sell memberships to passive investors, usually qualify for securities law exemptions. For example, SEC rules exempt the private sale of securities if all owners reside in one state and all sales are made within the state; this is called the "intrastate offering" exemption. Another federal exemption covers "private offerings." A private offering is an unadvertised sale that is limited to a small number of people (35 or fewer) or to those who, because of their net worth or income earning capacity, can reasonably be expected to be able to take care of themselves in the investment process. Most states have enacted their own versions of these popular federal exemptions.

For more information about SEC exemptions, visit the SEC website at www.sec.gov. A quick way to research your state's exemption rules is to go to the home page of your state's securities agency, which typically posts the state's exemptions rules and procedures. To find your state securities agency, go to your secretary of state's website.

If your business doesn't qualify for an exemption, you may want to explore other ways of raising money. See Nolo's Business Financing FAQ for more information.

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