As entrepreneurs have increasingly begun to operate businesses with social missions, new types of business entities have been developed to help bridge the gap between traditional for-profit business entities and non-profits. Benefit corporations are perhaps one of the most well-known examples of new-age business entities that combine social and for-profit objectives. However, over the past decade, a new business entity, the low-profit limited liability company, or L3C, has started to gain popularity with entrepreneurs who want to combine a social mission with the traditional benefits of a limited liability company.

What is an L3C?**

While “low profit” might scare some entrepreneurs away from L3C’s, L3C’s don’t actually have to have low profits. In many substantive ways, a L3C is just like a regular LLC. For example, both LLC’s and L3C’s grant the same liability protection to its owners and operators, and have the same governance structures. Financially, the equity owners of L3C’s are able to receive distributions from the business, just as with LLC’s. This means that the profits of the L3C can be disbursed among its equity owners. L3C’s are also taxed the same, federally, as LLC’s, and can pursue all of the same sources of funding. The key difference between and LLC and an L3C is that L3C’s “must be formed to enhance some charitable or educational purpose,” and cannot try to accomplish any political or legislative objectives.[1]

What are the benefits of an L3C?

For socially-conscious entrepreneurs, there are three key benefits to an L3C. First, the L3C allows entrepreneurs to simultaneously have a social focus, while also allowing them to generate profits (via the sale of goods or services) and raise capital.[2] Second, since LLC’s are less complex structures than corporations, an L3C can be simpler to form than a benefit or not-for-profit corporation, while offering many of the same benefits. Third, L3C’s are intended to comply with the requirements for PRI investment, making them potential candidates for investments from tax-exempt charities.

A PRI, or program-related investment, is a method of investment that allows charitable organizations to satisfy the Internal Revenue Services’ requirement that they pay no less than 5% of their funds to a charitable project each year.[3] Charities struggle to make PRI’s because it is very difficult and time consuming to find organizations that satisfy the PRI requirements, and there are large fines for PRI’s that are made to organizations that don’t meet all of the requirements.[4] Because of the social mission component of L3C’s, they could potentially be intriguing candidates for PRI investment.

How do you form an L3C in Michigan?

              Currently, L3C’s can only be formed in a handful of states, including Michigan. In states that don’t recognize L3C’s, an L3C would be treated just like a regular LLC.

Forming an L3C in Michigan is in most ways functionally identical to forming a Michigan LLC. In fact, the process is so similar that pre-existing Michigan LLC’s can be converted into L3C’s very easily—all they must do is edit and re-file their Articles of Organization.[5]

The first step to forming a new Michigan L3C is to choose the name of your L3C, and make sure to include “L3C” somewhere in the name.[6] The second step is to draft your Articles of Organization and file them with the Secretary of State.[7] The Articles of Organization for an L3C can look almost identical to those of an LLC, with 1 key exception. Michigan L3C’s are required to include in the definition of their business purpose each of the following statements:

  1. “The limited liability company significantly furthers the accomplishment of 1 or more charitable or educational purposes described in section 170(c)(2)(B) of the internal revenue code, 26 USC 170, and would not have been formed except to accomplish those charitable or educational purposes.
  2. The production of income or appreciation of property is not a significant purpose of the limited liability company. However, in the absence of other factors, the fact that a limited liability company produces significant income or capital appreciation is not conclusive evidence of a significant purpose involving the production of income or the appreciation of property.
  3. The purposes of the limited liability company do not include accomplishing 1 or more political or legislative purposes described in section 170(c)(2)(D) of the internal revenue code, 26 USC 170.”[8]

The third step, just as with a regular LLC, is for the founders of the L3C to negotiate and execute an operating agreement. While this step is not legally required, it is highly advisable. Finally, Michigan L3C’s are required to file an annual statement with Michigan’s Department of Energy, Labor, and Economic Growth.[9]

 

**I want to hyperlink this YouTube video to this header:

 

 

[1] https://www.canr.msu.edu/news/social_entrepreneurs_can_form_a_legal_business_structure_in_michigan

[2] https://www.canr.msu.edu/news/social_entrepreneurs_can_form_a_legal_business_structure_in_michigan

[3] https://ct.wolterskluwer.com/resource-center/articles/what-is-l3c-low-profit-limited-liability-company

[4] https://ct.wolterskluwer.com/resource-center/articles/what-is-l3c-low-profit-limited-liability-company

[5] http://www.dmlp.org/legal-guide/forming-l3c-michigan

[6] http://www.dmlp.org/legal-guide/forming-l3c-michigan

[7] http://www.dmlp.org/legal-guide/forming-l3c-michigan

[8] http://www.dmlp.org/legal-guide/forming-l3c-michigan

[9] http://www.dmlp.org/legal-guide/forming-l3c-michigan