Small business owners often use one entity to operate their business and a separate entity to own the building, which is leased to the operating entity. So you have a situation where the same group of people often has common control over both entities. This is done for a variety of tax and legal liability issues. While the operating business may be either in corporate or limited liability form, the entity owning the real estate is more often than not is a limited liability company. A commonly given reason for the growth of limited liability companies in Arizona is that they are less formal than corporations and also require no annual fee to be paid to the state.
A December 9, 2012 article in the Arizona Republic pointed out a major discrepancy in Arizona law whereby a municipal sales tax is charged to limited liability companies leasing buildings back under this common ownership scenario, but not to corporations. ARS Sec. 42-6004 A(12) was added to the list of exemptions in 2011, but interestingly enough only exempted corporations from the municipal sales tax where 80% of the voting share for each corporation (the operating corporation and the leasing corporation) are commonly owned. This is a statutory provision without logic, and apparently no one at the legislature can really explain why the statutory exemption was crafted in this manner. The article quoted one person who dissolved his limited liability company that owned the real estate and formed a corporation in order not to pay this municipal rental sales tax. It appears that an effort may be starting to correct this anomaly at the legislature. Until it is fixed, don’t expect your municipality to turn down an opportunity for some tax revenue because of equity or common sense principles.
Michael W. Margrave