What Is a Subsidiary Company
Benefits and Disadvantages of Subsidiaries
When a company buys another company, the second company usually becomes a subsidiary. For example, Amazon owns many subsidiary companies, including everything from Audible (recorded books) to Zappo's (online shoe sales).
What Is a Subsidiary
A subsidiary company is a company owned and controlled by another company. The owning company is called a parent company or sometimes a holding company.
A subsidiary's parent company may be the sole owner or one of several owners. If a parent company or holding company owns 100% of another company, that company is called a "wholly owned subsidiary."
There is a difference between a parent company and a holding company in terms of operations. A holding company has no operations of its own; it owns a controlling share of stock and holds assets of other companies (the subsidiary companies).
A parent company is simply a company that runs a business and that owns another business — the subsidiary. The parent company has operations of its own, and the subsidiary may carry on a related business. For example, the subsidiary might own and manage property assets of the parent company, to keep the liability from those assets separate.
A corporation or S corporation is owned by shareholders. In this case, the parent company typically holds 50% or more of the stock of the subsidiary.
An LLC is owned by members, whose ownership percentage is controlled by an operating agreement. An LLC can own another LLC.
Why Form a Subsidiary
Subsidiaries are common in some industries, particularly real estate. A company that owns real estate and has several properties may form an overall holding company, with each property as a subsidiary. The rationale for doing this is to protect the assets of the various properties from each other's liabilities.
For example, if Company A owns Companies B, C, and D (each a property), and Company D is sued, the other companies are not affected.
How a Subsidiary Is Formed
A subsidiary is formed by registering with the state in which the company operates. The ownership of the subsidiary is spelled out in the registration.
Let's say Company A wants to form a subsidiary to manage its properties. The subsidiary, Company B, registers with the state and indicates that it is wholly owned by Company A.
How a Subsidiary Operates
A subsidiary operates as a normal company would, while the parent company has only oversight. If the parent company had day-to-day supervision of the subsidiary, that would mean the parent would take on the liability of the subsidiary.
Accounting and Taxes for Subsidiaries
From an accounting standpoint, a subsidiary is a separate company, so it would keep its own financial records, bank accounts, assets, and liabilities. Any transactions between the parent company and the subsidiary must be recorded.
Many companies file consolidated financial statements (balance sheet and income statement) for shareholders, showing the parent and all subsidiaries combined.
From a tax standpoint, a subsidiary is a separate taxing entity. Each subsidiary has its own tax ID number and it pays all its own taxes, according to its business type.
If the parent company owns 80% or more of shares and voting rights for a subsidiary, it can submit a consolidated tax return to take advantage of offsetting profits of one subsidiary with losses from another. The subsidiary must consent to be included in this consolidated tax return.
Disadvantages of a Subsidiary
LegalZoom notes that if the parent company is sued, the liability can move down to the subsidiaries. "If the parent LLC has a claim or judgment against it, the assets of the subsidiaries could be in jeopardy. Any action against the parent can legally go after the parent company's assets, which in this case are LLCs themselves."
If company B is a subsidiary of company A, and Company B gets sued, Company A still has liability. If it's a totally separate company, the liability stays separate.
One disadvantage of subsidiaries is that they are more complicated from a tax, legal, and accounting standpoint. You will need both tax and accounting professionals to help you set up a subsidiary and navigate the regulations.
Subsidiary vs. Affiliate vs. Associate
A subsidiary is a company that's at least half owned by the parent company. In the case of an associate company, the parent company owns less than controlling share.
The term "affiliate" may be confusing. In the context of company ownership, an affiliate company is similar to an associate, in which the parent company owns less than 50%.
But, in the world of e-commerce, an affiliate relationship is a contractual relationship between two separate companies to sell products or services. In this case, neither company has any ownership or liability for the operations of the other company.
What's the Difference Between a Subsidiary and a DBA (Doing Business As)
A subsidiary is a legal business entity, registered with a state. A "doing business as" or trade name status is not a legal entity; it's a name used by the business in trading with the public. For example, XYZ company may do business as "Jim's Auto Repair." Jim's Auto Repair isn't a separate company in this case. If it were, it might be a subsidiary.
Disclaimer: Accounting and taxes for subsidiaries are complicated, and every situation is different. This is a very brief general summary of accounting, legal, and taxes for subsidiary situations. Get an attorney, CPA, and tax professional to help you set up and operate a subsidiary.