Parent Holding Company: Everything You Need to Know
A parent holding company is a corporation that has a subsidiary which is a partially or wholly-owned separate business that is controlled by the parent company.3 min read
A parent holding company is a corporation that has a subsidiary, which is a partially or wholly-owned separate business that is controlled by the parent company. Generally, a parent holding company must own at least 50 percent of a subsidiary's voting stock in order to control the operations and management of the organization. A wholly-owned subsidiary is one in which the parent owns 100 percent of the stock.
Forming a Holding Company for Businesses
The parent organization may also be referred to as a holding or umbrella company. A holding company is created to:
- Control assets such as buildings and equipment.
- Stocks and bonds.
- Other operating entities.
It can be expensive and unwise to form a parent company for subsidiaries that are small and only have a few assets (e.g., an online business). From a state's viewpoint, there are generally no restrictions on what subsidiaries a holding company may own. For example, a Limited Liability Company (LLC) may own a C corporation. However, in this case, the Internal Revenue Service (IRS) may force the LLC to file its taxes as a C corporation.
LLCs are never allowed to purchase S corporation shares because only individuals and certain estates and trusts may own this type of entity. On the other hand, a sole proprietorship is never allowed to have a subsidiary because its tax status is limited and it's not registered with a state.
How Do Holding Companies Make Money?
There are three ways in which subsidiaries generate value for the holding company:
- Selling and purchasing assets.
- Providing services.
- Profits from dividends and shares of stock.
Holding companies will usually create an operating agreement with their subsidiaries. The operating agreement will usually contain the following information:
- The cost of purchasing services from the parent holding company.
- The cost of selling services to other subsidiaries.
- The amount of capital that is required for the subsidiary to reserve each quarter or year.
Some holding companies will transfer out all excess cash each quarter from the subsidiary, while others may keep the cash within the operating business. In most cases, the parent company will take over the accounting, HR, and IT tasks and allow the subsidiary to focus on selling their product or service.
What Is a Parent Company?
There are numerous ways in which a parent holding company may create a subsidiary. One common way is a takeover. A takeover occurs when a company acquires at least 51 percent of the stock in a different company. Other ways to create a subsidiary include:
- Purchasing 100 percent of another business.
- Creating a totally new business that's owned by the parent holding company.
The purpose of a holding company is to control its subsidiaries. Remember, holding companies do not provide services or produce products. Stockholders will own shares in the holding company, but not in the various subsidiaries that it controls. This structure allows the holding company to easily sell or spin off any of its subsidiaries. It's quite common for a holding company to be created for the purpose of easily managing multiple subsidiaries and to protect investors. Also, it's usually much easier than merging the various companies into one.
Parent Company vs. Holding Company
Understanding the differences between a holding company and a parent company will:
- Manage tax obligations.
- Reduce legal liability.
- Diversify various business interests.
A holding company is created to:
- Own the stock of other businesses.
- It doesn't usually provide services or produce goods
- Control other similar organizations.
- Manage liabilities
- Benefit from consolidated tax requirements.
A holding company must acquire more than 80 percent of the outstanding stock of another business in order to receive any amount of tax benefit. A parent company is virtually identical to a holding company except in the legal implications as to the status of the company.
Generally, a parent company purchases its subsidiaries to assist in its own operations or for investment purposes. On the other hand, a holding company is completely inactive.
Personal Holding Company
A personal holding company is created when more than 50 percent of the outstanding shares of a corporation are owned by five individuals or less, indirectly or directly, and 60 percent of the corporation's adjusted ordinary gross income is personal holding company income. A personal holding company cannot be any of the following types of companies:
- Financial and lending institution.
- Foreign corporation.
- Surety company.
- Tax-exempt corporation.
- Life insurance company.
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