Statutory conversion
One filing changes the legal form; for tax it's treated as a contribution of assets for stock and a distribution of the stock.
A statutory conversion changes the entity's legal form in one filing. Delaware lets an LLC become a Delaware corporation by filing a certificate of conversion and a certificate of incorporation. The corporation is, for Delaware law, the same entity as the LLC, and the LLC doesn't wind up its affairs or pay off its liabilities to get there: what it owned and owed stays with it.
For tax, an LLC taxed as a partnership that converts this way is treated as if the partnership had contributed all its assets and liabilities to the corporation for stock and then handed the stock to its members. The contribution is a §351 exchange when the members control the corporation right after, so it is generally tax-free — subject to the exceptions §351 itself has, such as liabilities above basis, which the preparer checks.
Step 1: Approve
The members approve the conversion as the operating agreement requires, and the board-to-be adopts bylaws.
Step 2: File with Delaware
File the certificate of conversion and the certificate of incorporation with the Division of Corporations.
Step 3: Issue stock
Issue shares to the members for their interests; founders' new stock may need new vesting and an 83(b) election within 30 days if it is restricted.
Step 4: Close the tax year
Have the preparer close the LLC's partnership tax year at the conversion; the corporation files Form 1120 from then on.
Step 5: Tell everyone else
Re-qualify or amend registrations in each state where the company is qualified, and update the bank and payroll provider.
Where this lesson's rules come from
The sources behind this lesson's requirements, by kind. Anything marked as a convention is ours, not the rule-maker's.
- Federal statute
- 26 U.S.C. §351(a) (opens in a new tab)Transfers to a corporation the transferors controlFree to read
- 26 U.S.C. §368(c) (opens in a new tab)Control: 80% of the combined vote and 80% of every other class of stockFree to read
- IRS guidance
- Rev. Rul. 2004-59, 2004-24 I.R.B. (opens in a new tab)A partnership's formless conversion into a corporation is treated as assets-overFree to read
- State authority
- 8 Del. C. §265(b), (f), (g) (opens in a new tab)Conversion of an LLC or other entity into a Delaware corporationFree to read
The words this page teaches
Each links to its glossary definition, which also names the authority behind it and the components that render it.
- Statutory conversionChanging an entity's legal form under a state conversion statute — an LLC becoming a Delaware corporation under 8 Del. C. §265 — so the converted corporation is the same entity and nothing is wound up. For tax, a partnership's conversion is treated as a transfer of its assets to the corporation for stock, followed by a distribution of the stock to the partners
- Section 351 exchangeA transfer of property to a corporation solely for its stock, with no gain or loss recognized when the transferors control it immediately after — at least 80% of the combined vote and 80% of every other class of stock
- 83(b) electionAn election, filed with the IRS within 30 days of receiving restricted stock, to be taxed on its value at grant rather than as it vests — at a founder's purchase price, usually no tax at all, and the capital gain holding period starts at once