Limited Liability Companies (LLCs) Flashcards
Limited Liability Companies (LLCs)
Limited Liability Company
an unincorporated entity that provides limited liability and pass through tax to its owners (members)
Limited Liability Companies (LLCs)
Liability
Any debt, obligation, or other liability of the LLC is solely the liability of the LLC. ULLCA § 304
No Personal Liability
Members and managers do not face personal liability solely by virtue of their member/manager status, even after dissolution and even if the Member participates in management.
Members and managers are liable for their own misconduct
The court may issue charging orders against member’s LLC interests
Limited Liability Companies (LLCs)
Liability
Veil Piercing
The failure of an LLC to observe formalities relating to the exercise of its powers or management of its activities and affairs is not grounds for piercing the veil. ULLCA § 304(b)
However, some courts have applied veil piercing and reverse veil piercing to LLCs
Single-Member LLCs may face more risk of veil piercing
Limited Liability Companies (LLCs)
Taxation
Default Rules
Single-member LLCs –> disregarded as a separate entity treated as sole proprietorships
2+ Member LLCs –> classified as a partnership for tax purposes unless affirmatively elected to be taxed as corporation
Disregarded or Partnership Tax Regimes
Members declare their share of the LLC income on their individual tax returns
Limited Liability Companies (LLCs)
Formation
- Articles of Organization
- Operating Agreement
Articles of Organization
An LLC is created when the articles of organization is filed with the state and when at least one person becomes a member of the LLC. ULLCA § 201
Operating Agreement
This is a private document that is not filed with any state agency
Some states require the operating agreement be a written agreement, but most states and the ULLCA allow oral agreement. ULLCA § 102(13)**
Limited Liability Companies (LLCs)
Management & Control
Operating Agreement
Where the management and operation rules should be specified, including:
- Management Style
- Meetings
- Voting
- Agency & Authority
- Fiduciary Duties and Fiduciary Waivers
Limited Liability Companies (LLCs)
Management Styles
- Member-Managed
- Manager-Managed
An LLC is presumed to be member-managed under the ULLCA.
Limited Liability Companies (LLCs)
Member-Managed
Each member has equal rights in the management and conduct of the LLC’s activities and affairs. ULLCA § 407(b)
Under default rules, ordinary course matters may be decided by a majority of the members
Limited Liability Companies (LLCs)
Manager-Managed
Each manager has equal rights in the management and conduct of the company’s activities and affairs. ULLCA § 407(c)(2)
Ordinary course matters may be decided by a majority of the managers. ULLCA § 407(c)(1)
Managers do not have to be members
Managers are similar to a board of directors
Limited Liability Companies (LLCs)
Meetings
Most state statutes and the ULLCA do not impose requirements for meetings on an LLC, but the operating agreement should address the rules related to the holding of meetings.
Limited Liability Companies (LLCs)
Voting:
Operating Agreement Requirements
The Operating Agreement should specify whether voting:
- Will occur on a per capita or a pro rata basis, and
- What voting standards–unanimous, majority, super-majority, or
- Other requirements
Limited Liability Companies (LLCs)
Voting Models
ULLCA Rules
Voting is on an equal basis, unless otherwise stated in the operating agreement
Corporate Model
If the operating agreement is silent, voting is in proportion to ownership interests (CA + Other states)
Limited Liability Companies (LLCs)
Voting
Decisions Generally Requiring Unanimous Member Approval
- Matters outside the ordinary course of business
- Amending the operating agreement
- Agreement to dissolve the LLC
- Agreement to sell all of the LLC’s assets
Limited Liability Companies (LLCs)
Agency & Authority of Members
A member of an LLC is not an agent of an LLC solely by reason of being a member. ULLCA § 301(a)
There is no statutory rule granting agency status to members
A member may have actual or apparent authority, based on specific facts and circumstances, to bind the LLC on a contract. ULLCA § 301(b)
Limited Liability Companies (LLCs)
Agency & Authority of Members
Operating Agreement Requirements
The Operating Agreement should specify:
- Who is authorized to act on behalf of the LLC, in a manner that is consistent with the chosen management structure
- The nature and extent of authority, and
- Any limitations on that authority
Limited Liability Companies (LLCs)
Member-Managed
Fiduciary Duties
Members in a member-managed LLC have fiduciary duties (Loyalty & Care) to the LLC and other members, as well as obligations of good faith and fair dealing
Limited Liability Companies (LLCs)
Manager-Managed
Fiduciary Duties
Members in a manager-managed LLC do not have fiduciary duties solely based on their membership, but they do have obligations of good faith and fair dealing
Managers in a manager-managed LLC have fiduciary duties (Loyalty & Care) to the LLC and other members, as well as obligations of good faith and fair dealing
Limited Liability Companies (LLCs)
Altered/Waived Fiduciary Duties
Members may agree via the operating agreement to alter a member’s duty of care and loyalty, so long as it is not manifestly unreasonable
Manifestly Unreasonable
- Unreasonable Objective or Unreasonable Means to Achieve Objective
- Based only on Circumstances Existing at the time
Limited Liability Companies (LLCs)
Members’ Interest
A member’s right to LLC distributions is a type of personal property. ULLCA § 102(24)
Transferability
Unless otherwise provided in the Operating Agreement, a member may transfer or assign their right to distributions. ULLCA § 502
Transfer of the right to distribution does not by itself cause a person’s dissociation as a member. ULLCA § 502
Limited Liability Companies (LLCs)
Allocations & Distributions
Operating Agreement
The Operating Agreement may alter distribution rules to allow distributions so long as after the distribution is made the company’s total assets are not less than the sum of its total liabilities. ULLCA § 105(d)(1)(B)
Limited Liability Companies (LLCs)
Allocations & Distributions
The ULLCA provides for the equal allocation of distributions, except as necessary to comply with a transfer or charging order
Many state LLC statutes provide for pro rata distributions
Potential Insolvency
An LLC may not make distributions if it is, or would be as a result of the distribution, insolvent. ULLCA § 405
Limited Liability Companies (LLCs)
Effect of Member Dissociation
The default rule for LLCs do not require dissolution after a member dissociation
Once a person is dissociated, they no longer have the right to participate in management. ULLCA § 603(a)(1)
Limited Liability Companies (LLCs)
Events Causing Dissociation
A member may withdraw or dissociate according to the terms of the Operating Agreement or Articles of Organization. ULLCA § 602
Default Rules
A member may withdraw upon giving notice to the LLC. ULLCA § 601
A person has the power to dissociate as a member at any time, rightfully or wrongfully, by withdrawing as a member by express will. ULLCA §§ 601 & 602(1)
Limited Liability Companies (LLCs)
Wrongful Dissociation
A wrongfully dissociating member is liable for damages caused by the dissociation. ULLCA § 601
This liability is in addition to any debt, obligation, or other liability of the member to the company or the other members
Limited Liability Companies (LLCs)
ULLCA Dissociation Events
- An event occurs that has been agreed to in the Operating Agreement
- A member is expelled
- A member files for bankruptcy (in a member-managed LLC)
- A member dies
Limited Liability Companies (LLCs)
Events Causing Dissolution
The dissociation of a member does not automatically result in the dissolution of the LLC, nor require winding up
LLC follows the same approach as RUPA
Dissolution Events
- An event occurs that has been specified in the Operating Agreement
-
All members consent to dissolve
a. Some states (CA & NY) require only a majority vote, not unanimous) - 90 days pass with no LLC members
- A judicial decree is entered that
a. It is not reasonably practicable to carry on the LLC business
b. The managers are acting fraudulently, illegally, or in a manner that is oppressive and harmful to the applicant - The secretary of state signs and files a statement of administrative dissolution
Limited Liability Companies (LLCs)
Winding Up Process
-
Distribution of Assets
a. Discharge obligations to creditors, including members. ULLCA § 702
b. Any surplus is paid to members in accordance with their rights to distributions - File Articles of Termination/Dissolution
Limited Liability Companies (LLCs)
Actions by Members
A member of an LLC may bring direct or derivative actions
ULLCA Derivative Actions
A member may maintain a derivative action **only if **the member
- First makes a demand, or pleads with particularity demand-futility, and
- Satisfied all other procedural and substantive requirements
Limited Liability Companies (LLCs)
Conversions, Mergers, & Domestications
Same rules as corporations.
LLCs may operate in foreign states but generally require an application to transact business
Limited Liability Companies (LLCs)
Other Forms of LLCs
- Professional LLCs (PLLCs)
- Family LLCS
- Low-Profit LLCs (L3Cs)
Limited Liability Companies (LLCs)
Professional LLCs
Generally, the professions retain liability for their own negligence and that of others under their supervision
Protects the members’ personal assets from obligations of the PLLC
Membership is usually restricted to licensed professionals
Many states do not allow LLCs to offer banking or insurance services
California does not allow professions to be organized as LLCs
