Clients are lulled by the cheap prices of Legal Zoom. Be aware a standard LLC without specific asset protective clauses in the LLC Operating Agreement, will not provide asset protection of the type you are hoping for. |
There are almost no state restrictions on how an LLC Operating Agreement may be structured. State law allows the LLC Operating Agreement to override the otherwise "default" state statutes. Your imagination is the only limitation. Out of inertia a lot of practitioners simply follow the language of the "default" state statutes. Remember, an LLC Operating Agreement is most important when you and/or the LLC are attacked. It is then that an Asset Protected LLC Operating Agreement shines.
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| Below are some of the asset protective features I may insert into your LLC Operating Agreement in appropriate cases. |
- Cannot Assign Interest. Provide that LLC ownership interests cannot be assigned to creditors or anyone without the consent of the LLC Members,
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- Eliminate Certain Powers. Provide that Members have no unilateral power to demand distributions or liquidate the LLC,
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- Non-Disclosure. Provide that the LLC does not need to disclose any company information to non-Members,
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- Executory. Be drafted as an executory contract to protect against a bankruptcy trustee stepping into the shoes of the Member. To this end we:
- Have a provision setting forth the business purpose of the LLC so that the bankruptcy court will not frustrate such purpose by disregarding the LLC Operating Agreement and state LLC laws.
- Have a statement that the parties agree that the Agreement is an executory contract under 11 U.S.C. §365 with a summary of each duty imposed upon a Member to create the executory contract.
- State that Members have a duty to make future capital contributions to the LLC.
- State that each partner is involved in the management of the LLC and attend regular LLC meetings.
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- Non-Pro-Rata Distributions. Provide for the LLC to make non-pro-rata distributions. If our client and an outside party are 50-50 members of an LLC and a judgment is entered against our client, the LLC charging order protection works only if the LLC can cease making distributions. But the outside party wants to continue getting cash out. If the LLC does not allow non-pro-rata distributions, then the LLC must either distribute to both Members or to neither.
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- No Distributions. Provide a provision allowing the Manager to cease making distributions to a Member pursued by a creditor. Distributions are made pro rata, but an exception is carved out.
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- Poison Pill. Include poison-pill buyout provisions so the LLC can buy out a bankrupt or creditor pursued Member for a nominal amount. It grants the non-debtor Members the right to buy out the debtor Member's interest at a preset price. We only use poison pill clause if the other Members are family members of the debtor. We don't want to lose interests to outsiders who happens to be in the same deal.
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- Special Allocation For Tax Purposes. Include tax language in the LLC Operating Agreement that allows for LLC special allocations (often considered to be the most complex area of the internal revenue code) so you can allocate the income and losses among the Members as needed.
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For example, my client and friend invested 50/50 in an LLC which owned real estate with the features described above. The friend was involved in a business that went bankrupt. The friend was sued personally and the creditor asked for his personal financial statement. The friend correctly reported that he owned a 50% interest in an LLC. The creditor had no interest in spending money to obtain a charging order against the LLC, knowing that the LLC was not going to make any distributions as long as the charging order was in effect. |
We Maximize the Asset Protection Ability of the LLC Operating Agreement By Filing It in a State That: |
- Places limits on the type of charging order that a creditor can obtain. For instance Wyoming:
- Many state statutes only give nominal creditor protection; however Wyoming has favorable creditor protection legislation. By way of example, the Wyoming Close LLC gives maximum protection as it mandates by statute that a creditor of a member of an LLC only has the rights of a transferee and that the charging order is the exclusive remedy by which a judgment creditor may satisfy a judgment, Wyoming Statute Section 17-15-503. This statute enhances Wyoming LLC Operating Agreements creditor protection over that of most other states.
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The main difference between a regular LLC and a Close LLC is the restriction on the selling of a member's shares. A member must offer to sell his shares to the other members of the LLC before they can be sold to anyone else. Also, all members must approve the sale of shares. This works well in a closely held family company, where the parents want to make sure that the children can not sell part of the company to outsiders.
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The Close Limited Liability Company's articles of organization, and LLC operating agreement may also restrict transfer of ownership interests, withdrawal or resignation from the company, return of capital contributions, and dissolution of the company.
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- Requires a court order for all accountings directions and inquiries a judgment debtor might make.
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LLC Plus Equity Strip |
The property owner takes out a large amount of debt (mortgage) on the property. If an asset has a very large percentage of debt associated with it, a successful creditor may not want to pursue that specific asset. |
If the creditor does decide to go after the real estate, they will have to stand behind the first creditor (the bank or mortgage company) holding the loan against the asset. The proceeds from the "refinancing" can then be available for investing in other asset-protected accounts such as annuities and life insurance cash values. For more information about different ways to Equity Strip, click here.
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For Greater Strength |
The limited liability company interests should not be held directly by the client. For those in high liability businesses or who have significant wealth, the interests should be owned by a Domestic Asset Protection Trust or an Offshore Asset Protection Trust to protect against a potential charging order or foreclosure or even from an argument that the entity is the “alter ego” of the founder. This is the strongest use of the LLC, a specially designed trust arrangement to provide sufficient “distance” between the client and the limited liability company assets. We must insure that the plan is able to withstand whatever degree of scrutiny is ultimately applied. |
For Technical Information About the limited liability company (llc),
Please Click the Below Link to My Book.
Chapter 10 | Limited Liability Companies (LLCs)
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LLC Operating Agreements are Most Important When You or the limited liability company is Attacked.
