When many of us think about starting a business, we often assume that companies necessarily sell a product or offer a service. Some of the most obvious examples that come to mind are local brick-and-mortar businesses and ecommerce sellers. Although many businesses do primarily make revenue through products and services, there are other types of companies in existence as well — like holding companies.
Here we will cover the basics, such as the definition of a holding company, why these entities exist and when it may be a good idea to consider starting one of your own.
What is a Holding Company?
The most basic way to define a holding company is one that only exists to own assets and does not otherwise operate. According to The Balance, holding companies can technically possess any type of asset with value, such as:
- Shares of other corporations’ stock
- Real estate
With ownership tends to come power. A holding company can simply invest in other companies and earn dividends without having any say over how the company operates or a holding company can actively influence the operations of its subsidiaries. The relationship between a holding company and a subsidiary really depends on the arrangement in place.
To be a Personal Holding Company (PHC), according to Internal Revenue Service regulations, an organization must have 60 percent or more of its gross income for a given tax year come from dividends, rent, interest and royalties. Additionally, fewer than five people must own most of the company’s stock during the second half of that same year.
What are the Advantages of Holding Companies?
Your next question is likely something along the lines of: But why? What is the purpose or potential advantage of starting a holding company?
A major reason for the existence of holding companies is protection against bankruptcy. Subsidiaries, those operating underneath the holding company, can “go under” in the classic sense. While the holding company would almost certainly lose money if one of its subsidiaries went bankrupt, that holding company would not be on the hook for repayment. Instead it would have to write off the lost value of the company that failed as lost capital.
Investopedia sums up the biggest reason for holding companies as asset protection. This financial protection may also apply if a subsidiary brand gets sued.
Example of a Holding Company & Subsidiaries
In 2015, Google underwent serious restructuring — the result of which was the creation of holding company Alphabet, Inc. As the parent company, Alphabet, Inc. not only owns Google, but also any companies Google had previously acquired along with other tech and financial firms.
For instance, Alphabet, Inc. also became a holding company for Nest, maker of home automation solutions — as well as tech companies focused on artificial intelligence and self-driving cars, plus venture capital firms. Alphabet, Inc. also acts as umbrella over Google subsidiaries like YouTube and Android. As Fast Company wrote about the restructuring, the new arrangement would allow Alphabet to minimize possible spread of risk between LLCs.
As you can imagine, holding companies tend to be more common among large corporations rather than small businesses. However, owners of multiple businesses of any size can at least consider the possible upside to starting a holding company to protect their personal assets as well as those of their subsidiaries – particularly if one busy ends up going bankrupt.
Whether or not to start a holding company — and how to go about doing so legally and beneficially — is a complex issue best discussed with a tax professional and an attorney.