The details of how to convert your Pennsylvania limited liability company (LLC) to a Pennsylvania corporation will vary depending on your specific situation. However, here is some general guidance on the process of conversion to a for-profit corporation. Because the tax consequences can be significant, you should consult with a tax adviser before undertaking any conversion.
Statutory Conversions vs. Statutory Mergers
As an initial point, be aware that there is a distinction between a “conversion” and a “merger,” and more specifically between a “statutory conversion” and a “statutory merger.” A statutory conversion is a cheaper, quicker way to convert an LLC to a corporation—largely because you do not have to form a separate corporation before the conversion can occur. However, Pennsylvania is one of only about fifteen states that do not allow statutory conversions of LLCs to corporations. Instead, Pennsylvania only allows statutory mergers. Unlike statutory conversions, statutory mergers do require you to form a separate corporation before you can convert—or, more accurately, merge—your business.
Notwithstanding the distinction between statutory conversions and statutory mergers, “conversion” is a more general term that can include mergers. In this article, we’ll use “conversion” and “merger” somewhat interchangeably, sometimes speaking broadly about “conversions” and “converting” your business, even though, more narrowly and technically, we’ll be talking about a merger.
Pennsylvania’s Merger Statutes
Bearing in mind that mergers can be among the most complicated of business transactions, this section provides a very brief summary of the process of conversion-via-merger under Pennsylvania’s merger statute. As in most states, Pennsylvania has one merger statute under its LLC laws and another merger statute under its corporations laws; portions of each of these statutes apply to a LLC-into-corporation merger. For the most important parts of each of the two statutes, check Sections 1921 through 1929 and 8956 through 8959 of Title 15 of the Pennsylvania Consolidated Statutes (Pa.C.S.).
To convert your Pennsylvania LLC to a Pennsylvania corporation via a statutory merger, you need to:
Step 1: Create a Corporation
Creating a corporation is a multi-step process. However, for immediate purposes, the key elements are preparing articles of incorporation and bylaws; the articles of incorporation will be filed with the Department of State. Through these formational documents, the members of your preexisting LLC will also become the shareholders of your new corporation. For more detailed information on forming a corporation in Pennsylvania, check How to Form a Corporation in Pennsylvania. (If you want to use your LLC’s name as the name of your new corporation, you should also include a completed Consent to Appropriation of Name form with your articles of incorporation and other filed documents.)
Step 2: Prepare a Plan of Merger
As its name suggests, the plan of merger will contain details about the merger; it must include:
Step 3: LLC Approval of Plan
On the LLC side of this transaction, the rules for plan approval depend in part on whether the LLC is member-managed or manager-managed. If your LLC is member-managed, the plan must be approved a majority of the votes cast by all members entitled to vote on the plan; if classes of members are entitled to vote on the plan as a class, then a majority of votes in each class must approve the plan. If your LLC is manager-managed then, as a rule, the managers must also approve the plan. However, in the case of some manager-managed LLCs, no member approval of the plan may be necessary. For more details, check 15 Pa.C.S. § 8957. (Generally speaking, where a member-managed LLC is formed for the primary purpose of the merger, and the shareholders of the corporation are also the members of the LLC, it should be the case that all LLC members will approve the merger.)
Steps 4 and 5: Corporation Board and Shareholder Approval of the Plan
On the corporation side of this transaction, the plan of merger must be adopted by the board of directors, and then approved by the shareholders. (For a small business, the directors may be the same people as the shareholders.) Shareholder approval of the plan of merger requires a simple majority of all votes in each voting class entitled to vote on the plan. Unlike some other states’ statutes, Pennsylvania does not clearly allow for the possibility that your corporation’s board of directors or articles of incorporation will provide for different voting requirements. For more details, check 15 Pa.C.S. § 1924.
Step 6: File Articles of Merger
The articles of merger will include:
For your convenience, the Department of State makes available a blank articles of merger form for cases where the surviving entity is a corporation. You will need to tweak this form to work for an LLC-into-corporation merger.
Other Important Advice
Some people may consider the formation of the new corporation, the plan of merger, the plan approval process, and the articles of merger all to be straightforward. However, as mentioned above, mergers are generally complex transactions, and often involve unexpected complications. Therefore, you should strongly consider working with a business attorney to draft the required documents and otherwise complete the merger process.
Your total filing fees for this process probably will be at least $275, which includes $125 for filing the articles of incorporation for the new corporation and $150 for filing the articles of merger.
Pennsylvania’s corporations merger statute states not only that all of your LLC’s property, as well as all of its debts and liabilities, are transferred to the new corporation, but also that any liens on the property remain unimpaired, and legal actions against your business “may be prosecuted to judgment as if the merger . . . had not taken place”—or your new corporation may be substituted for your old LLC as a party in such actions. For more information, check 15 Pa.C.S. § 1929.
Apart from the items mentioned in How to Form a Corporation in Pennsylvania, one other important step when undertaking this type of merger is to make sure that no business contracts or agreements, such as bank documents, leases, licenses, and insurance, will be nullified by your LLC’s conversion to a corporation.
The IRS makes clear in a 2004 bulletin that, generally speaking, it will tax a statutory merger as though the LLC members formally transferred all LLC assets and liabilities to the corporation in exchange for stock, and then immediately liquidated the LLC. However, the specific tax consequences for LLC-into-corporation mergers vary from one case to the next. Because the tax consequences can sometimes be significant, you should consult with a tax adviser before undertaking any conversion.
Some Final Considerations
Our main concern here has been converting the legal form of your business from an LLC to a corporation. However, if you’re seeking to convert your LLC’s tax status from partnership to corporation without changing the LLC’s legal form, you only need to file IRS Form 8832 (to be taxed as a C Corporation) or IRS Form 2553 (to be taxed as an S corporation). (By default, the IRS taxes a multi-member LLC as a partnership and a single-member LLC as a so-called “disregarded entity;” there is no separate IRS tax category for LLCs.) While the IRS forms for changing tax status are fairly straightforward, do be aware that this procedure—known as “Check-the-Box”—involves special eligibility criteria; you can find those criteria in the instructions included with the forms.
Keep in mind that certain considerations may affect the timing of your conversion. For example, if you are converting to a C Corporation in order to make your business more attractive to outside investors, you will probably need to convert before any investment occurs. Conversely, if outside investors are not at issue, but the specific nature of your LLC’s assets and liabilities will lead to an undesirable tax burden for the current tax year, you may need to at least temporarily delay the conversion.
For additional guidance on converting from an LLC to a corporation, check Corporations and S Corporations vs. LLCs. For information on conversion rules in other states, check Nolo’s 50-State Guide to Converting an LLC to a Corporation.