Tax Law Insights

In a case that will have far reaching implications for many estate and financial planners, the South Carolina Supreme Court reversed the South Carolina Administrative Law Court and concluded that real property owned by a single member limited liability company may qualify for favorable property treatment as a legal residenceCFRE, LLC v. Greenville County Assessor, Opinion No. 27032 (SC Supreme Court filed August 29, 2011).

In order to put this opinion in perspective, a brief review of South Carolina income and property taxation is helpful. Turning first to the income tax, South Carolina generally mirrors the federal system with lower tax rates. South Carolina also follows the federal income tax system insofar as the classification of various classes of taxpayers such as individuals, trusts, partnerships and corporations. South Carolina also recognizes such special tax entities that exist only for income tax purposes, such as "S corporations," see, S.C. Code Section 12-6-590(A), and allows single member limited liability companies that have not elected to be taxed as a corporation, so-called disregarded entities, to be ignored for tax purposes. S.C. Code Section 12-2-25(B)(1).

The property tax system is less transparent and many South Carolina taxpayers are not familiar with the intricacies of the system. There are three factors that determine the tax burden on property in South Carolina. These three factors are the value of the property, the assessment ratio, and the millage imposed by the relevant taxing authority. The assessment ratio varies by the use of the property and the lowest assessment ratio applies to property used as a legal residence. The assessment ratio for a legal residence is 4% whereas the assessment ratio for "other" real property is 6% and can be even higher for other classes of property. Thus the difference between qualifying as a legal residence or "other" real property can be significant; the loss of status as a legal residence can result in 150% increase in the tax bill for such real property. Also treatment of real property as a legal residence is required for other property tax relief such as the homeowner's exemption for taxpayers over 65 years old and the state funded credit for property tax relief that effectively exempts legal residences from all property taxes imposed for school operating purposes.

To qualify for the special 4% reduced assessment, the owner of real property must satisfy numerous specific requirements. The assessment ratio only applies to the legal residence and not more than five acres contiguous thereto and must be "occupied by the owner of the interest," and the residence must "be the domicile of the owner-applicant." S.C. Code Section 12-43-220(c)(1). Although the statute specifically permits certain trust owned real estate to qualify as a legal residence, it was an open question as to whether this reduced assessment ratio would be available to a single member limited liability company. Among other things the taxpayer has to apply for the exemption and whether a limited liability company could hold a legal residence or affirmatively represent various other matters that clearly could only be satisfied by individuals was uncertain. See, S.C. Code Section 12-43-220(c)(2)(ii) - (iv).

The denial of the application for treatment as a legal residence brought this controversy to the South Carolina Supreme Court. In 2004, Sherry Ray formed CFRE, LLC and deeded certain real property that she had occupied as her residence since 1991 to the LLC. The Greenville County Assessor rejected the application because in the view of the assessor's office (and in reliance on two separate opinions from the South Carolina Attorney General) limited liability companies were not eligible for the special assessment ratio applicable to owner-occupied residences.

The taxpayer appealed this decision to the Greenville County Board of Assessment which affirmed the assessor's decision. The case was then appealed to the South Carolina Administrative Law Court (the "ALC").

The ALC upheld the assessor's conclusion as well opining that only a "natural person" could qualify for the special assessment ratio. The ALC also cited the failure of the General Assembly to adopt legislation specifically qualifying single member limited liability companies for the exemption as supporting the assessor's ruling.

The South Carolina Supreme Court reversed the ALC and concluded that real property owned by a single member limited liability company does qualify for the favorable property tax assessment as a legal residence. The Court focused on three distinct reasons for its conclusion.

Although the Court agreed the taxpayer had the burden of proof to qualify for the exemption, if the taxpayer satisfied the plain meaning of the statute, the taxpayer was entitled to the exemption. In the view of the Supreme Court, South Carolina has unequivocally adopted legislation, in S.C. Code Section 12-2-25(B)(1), stating that a single member limited liability company that has not elected to be taxed as a corporation will be ignored for South Carolina tax purposes. The Court concluded from a plain reading of the statute that qualifying limited liability companies were ignored for all taxes including property taxes. The Court specifically rejected the argument of the assessor that limited liability companies may be ignored only for income tax purposes.

The Court then cited numerous instances where the South Carolina Department of Revenue (the "SCDOR") had ignored single member limited liability companies including the deed recording fee, the sales/use taxes and in other SCDOR publications. Given that the SCDOR has consistently applied the statue broadly, the Court was inclined to follow the application and interpretation adopted by the SCDOR as it is "the agency charged with administering this State's revenue laws."

Finally, the Court stated that, although one might concede that a limited liability company may not have a residence or a domicile, if the member qualifies then the limited liability company is eligible "derivatively through the member." Given that it was undisputed that the sole member used the property as a legal residence, the real property owned by the limited liability company thus owned by the member qualified for the special assessment applicable to legal residences.

The Supreme Court concluded its analysis of this issue by cautioning against relying upon unenacted legislation to interpret legislation or divine legislative intent. The Court noted that bills pass or fail for various reasons and it is "beyond speculation" to seek to apply the failure of a particular piece of legislation as a legislative direction or as specific legislative intent.

Taxpayer Impact

As mentioned above, qualification for the 4% assessment ratio as a legal residence can result in a material tax savings to a homeowner. Although a trust has long been available to South Carolina residents as an option for homeowners engaged in estate or other tax planning, the single member limited liability company may prove to be a more simple and reliable tool.

It is important to keep in mind two key points when considering the use of a single member limited liability company. First, the sole member of the LLC must still satisfy all of the requirements to qualify as a legal residence such as only having a single residence, treating the particular residence as the taxpayer's domicile, and providing proof of that intent. Second, there may only be a single owner of the limited liability company; otherwise the limited liability company will not qualify as a disregarded entity and eligibility for the special assessment ratio will be lost.

In summary, persons seeking to utilize a single member limited liability company to own their residence may now do so without forgoing some of the tax benefits available to other owners of a legal residence. Care must be taken, however, to verify that the member of the limited liability company satisfies all of the requirements in the statute for the special legal residence assessment ratio and that ownership of the LLC must remain with the single member.