Low-profit Limited Liability Companies

A Low-profit Limited Liability Company, or L3C, is a newer hybrid limited liability company (“LLC”). An L3C combines the advantages of a LLC- namely, limited liability and profit- with the social benefit element of a nonprofit entity. An L3C has the main goal of promoting a social benefit, not profit. L3C’s are created by state law, and Michigan is one of a few states that have permitted the creation of L3Cs. An L3C must be specifically organized to meet one of more charitable or educational purposes, as defined in the Internal Revenue Code (“IRC”).

Most often, L3Cs are used by private foundations, although stand-alone businesses may organize as an L3C if they have a socially beneficial purpose. For private foundations, L3Cs are one method to assist in making program-related investments (“PRI”). Normally, under IRC rules, private foundations must distribute 5% of their net assets for a charitable purpose. Most private foundations meet this goal through giving grants to other organizations. Under the IRC, since L3Cs have a charitable or educational purpose, a private foundation may make a loan or investment in an L3C.

Entrepreneurs may also consider an L3C as their organizational structure, provided the entity has a socially beneficial purpose. For example, charter schools or health clinics may organize as an L3C. Under Michigan Law, an L3C is:

“Low-profit limited liability company” means a limited liability company that has included in its articles of organization a purpose that meets, and that at all times conducts its activities to meet, all of the following requirements:

(i) 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 of 1986, 26 USC 170, and would not have been formed except to accomplish those charitable or educational purposes.

(ii) 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.

(iii) 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 of 1986, 26 USC 170.

Thus, a social entrepreneur could form an L3c if it meets the purposes described in Section 170(c)(2)(B) of the IRC, which requires that the entity be “organized and operated exclusively for religious, charitable, scientific, literary, or educational purposes, or to foster national or international amateur sports competition (but only if no part of its activities involve the provision of athletic facilities or equipment), or for the prevention of cruelty to children or animals.”

One common example of the use of L3C’s is in education. An example: two Detroit public school teachers are developing an app to assist students in completing homework assignments and logging work completed. They want the social benefit purpose of an L3C to attract grant funding, which normally would only be available to tax-exempt 501(c) nonprofits. The school teachers form as an L3C in order to attract these funding opportunities, since their goal is socially beneficial and meets the requirements under Michigan law and Section 170 of the IRC.

Thus, an L3C may be a potential organizational structure for certain business ventures. To discuss entity organization, please contact Benjamin Long of Schmidt & Long.