What is a Low Profit Limited Liability Company?

The L3C, or Low-Profit Limited Liability Company, is a relatively new corporate designation that can be used to build a market for investment in financially risky, but socially beneficial activities.    Although this type of entity, like a limited liability company, is recognized by all states, a L3C can only be organized in Vermont, Illinois, Michigan, Utah, and Wyoming.

The L3C is a subclass of the standard LLC.  Unlike a standard LLC, however, the L3C has an explicit primary charitable mission and only a secondary profit concern.  Organizing as a L3C is similar to organizing as a LLC, except that the L3C designation must be indicated when the articles of organization are filed and the name must include the words “L3C.”

Under Vermont Law, any entity seeking 501(c)(3) status would still want to organize as a non-profit corporation, under T.11B of the Vermont code, to qualify for that tax status. If an entity is not seeking 501(c)(3) status, a L3C is considered a pass-through entity for federal tax purposes.

The three major requirements of a L3C deliberately mirror the IRS requirements governing Program-Related Investments (PRI)^[1]. The Vermont Statute, 11 V.S.A. §3001(27), requires the following:

(A) The Company significantly furthers the accomplishment of one or more charitable or educational purposes…; and (ii) would not have been formed but for the company’s relationship to the accomplishment of charitable or educational purposes.

(B) No significant purpose of the company is the production of income or the appreciation of property….

(C)No purpose of the company is to accomplish one or more political or legislative purposes….

Like a LLC, a L3C’s operating agreement is allows for different levels of investors. This provides flexibility when setting up expected contributions and entitled distributions. One tier of investors can contribute more and receive less while a second tier can have greater participation in the profits. In order to receive certain tax benefits, a private foundation needs to meet minimum distribution requirements⁵. Those requirements are based on the fair market value of the foundation’s assets. If an operating agreement provides for lower returns, the fair market value of that foundation’s assets will be lower. By soaking up the risk, a private foundation allows for a second tier of investors to recognize a higher rate of return.

Because it is a specialized type of LLC, an L3C has a pass-through tax structure.  There are no direct tax benefits derived from investing in L3Cs. The benefits of a L3C are based on the different returns that one aims to achieve. Some investors are looking for more than high monetary returns.  These investors are looking to promote charitable or educational goals.  The different levels of investing in a L3C allow some investors to get benefits that are not monetary while other investors can obtain monetary benefits.  This is based on the PRI.  The PRI allows a private foundation to get tax benefits while other investors in the same L3C can earn better returns.  Even though some of the goals reached by a L3C, like being eligible to receive PRI funds, can be reached by a LLC, the L3C moniker provides investors with the knowledge that their investment is promoting social benefits.

An L3C could be a great resource for a start-up aiming to promote charitable or educational purposes.  Although the L3C has not been around for much time, it allows innovators to turn a profit while promoting positive goals beyond making a profit. As mentioned above, this is facilitated by the flexibility of the LLC structure on which the L3C is based. Only the imagination of the organizer and the goal of the entity limit what can be accomplished through an L3C.

•Marc J. Lane, Op-Ed, L3Cs Hold Key To Solving State’s Social Woes, Crain’s Chicago Business, Aug. 11, 2008, at http://www.chicagobusiness.com/cgi-bin/article.pl?article_id=30399

•Vermont Secretary of State: Corporations Division, Low–Profit Limited Liability Company at http://www.sec.state.vt.us/corps/dobiz/llc/llc_l3c.htm (last accessed June 30, 2010)

[1] A PRI is an IRS-sanctioned investment made by private foundations in order to receive special tax treatment. These private foundations must distribute at least five percent of their assets to social programs every year, or make socially beneficial “program-related investments” of five percent or more of their assets every year, in order to receive their tax benefits. (26 U.S.C. §4942(d))