(24) Limited Liability Company and Nature of an LLC

What is a Limited Liability Company (LLC)?

A business entity that combines partnership flexibility and pass-through taxation with corporate-style limited liability.

What characteristics of a partnership does an LLC retain?

Flexibility and pass-through tax treatment.

What characteristic of a corporation does an LLC adopt?

Limited liability for all members.

Have most states adopted the Uniform Limited Liability Company Act (ULLCA)?

No.

What is the purpose of the ULLCA?

To provide a flexible default framework for LLCs.

Is an LLC a separate legal entity from its owners?

Yes.

May an LLC sue or be sued in its own name?

Yes.

How are fiduciary claims involving an LLC generally brought?

Through a derivative lawsuit.

What liability protection does LLC status provide?

A complete limited liability shield for all members.

Are LLC members personally liable for the LLC's obligations?

No.

Is an LLC member vicariously liable for another member's wrongdoing?

No.

What do most state LLC statutes resemble?

A combination of partnership and corporate law.

What types of businesses are many states prohibited from operating as LLCs?

Banks, savings and loans, thrifts, and insurance companies.

How is an LLC formed?

By filing Articles of Organization with the state.

What document creates an LLC?

The Articles of Organization.

How long may an LLC exist?

Perpetually.

For what purposes may an LLC exist?

Any lawful purpose.

What naming requirement applies to an LLC?

The name must include "LLC" or an equivalent designation.

Who are the owners of an LLC called?

Members.

Do all LLC members enjoy limited liability?

Yes.

Are LLC members personally liable for contributions or indemnification owed to the LLC?

No.

How do most states allocate LLC profits and losses?

In proportion to the value of each member's contribution.

How do a minority of states allocate LLC profits and losses?

Equally among all members.

May an assignee automatically become an LLC member?

No.

When may an assignee become an LLC member?

When the Articles of Organization, operating agreement, or the other members permit it.

What is an operating agreement?

An agreement governing the internal affairs of the LLC.

Must an operating agreement always be written?

No, although most states require a writing.

What may an operating agreement govern?

The members' rights and the internal affairs of the LLC.

Under the ULLCA, may an operating agreement completely eliminate the duty of loyalty?

No.

Under the ULLCA, may an operating agreement limit the duty of loyalty?

Yes, if the limitation is not manifestly unreasonable.

May an operating agreement unreasonably reduce the duty of care?

No.

May an operating agreement eliminate the duty of good faith and fair dealing?

No.

May an operating agreement redefine the standards for good faith and fair dealing?

Yes, if not manifestly unreasonable.

What law governs the internal affairs of an LLC if there is no operating agreement or governing statute?

General partnership law.

What is a member-managed LLC?

An LLC in which every member has the right to participate in management.

What is the default management structure of an LLC?

Member-managed unless otherwise provided.

What is a manager-managed LLC?

An LLC managed by designated managers rather than all members.

Must managers be LLC members?

No.

Who selects outside managers?

The members or a managing member, depending on the operating agreement.

May an LLC have officers?

Yes.

Who selects the officers of an LLC?

The managers.

Who has authority to bind the LLC in contracts?

Only those persons who manage the LLC's affairs.

May a member assign the right to receive business profits?

Yes.

Are LLC members personally liable for the LLC's separate obligations?

No.

What may an individual creditor of an LLC member reach?

Only the member's income stream, not specific LLC property.

What property may LLC creditors reach?

Only LLC property unless the veil is pierced.

What is piercing the veil of an LLC?

Disregarding limited liability and imposing LLC obligations on individual members.

When may a court pierce the LLC veil?

When the facts justify disregarding limited liability.

What two primary factors support piercing the LLC veil?

Control and fraud or injustice.

What control factor is considered when piercing the LLC veil?

Whether the member actively participated in management or controlled the LLC.

What fraud or injustice factor supports veil piercing?

Using control to perpetrate fraud or produce an unjust result.

Is LLC veil piercing highly fact-specific?

Yes.

What fiduciary duties do LLC members and managers owe?

The duties of loyalty, care, and good faith and fair dealing.

May an operating agreement eliminate fiduciary duties?

No.

May an operating agreement limit fiduciary duties?

Yes, within statutory limits.

Does self-dealing automatically establish a fiduciary breach?

No.

To whom do managers owe fiduciary duties?

The LLC and one another in a manner similar to a close corporation.

What is dissociation in an LLC?

The death, withdrawal, or expulsion of a member.

Does dissociation automatically dissolve an LLC?

No.

What generally happens to a dissociated member's interest if the LLC continues?

It is purchased by the LLC or the remaining members.

May an outsider purchase a dissociated member's interest?

Yes, if the operating agreement permits.

What management rights does a dissociated member retain?

None, unless the LLC dissolves and enters winding up.

When may a dissociated member participate after leaving the LLC?

During winding up if the LLC is dissolved.

What events may trigger dissolution of an LLC?

Events specified in the operating agreement or a vote of the required majority of members.

May the operating agreement specify automatic dissolution events?

Yes.

What member events may cause an LLC to dissolve?

Death, resignation, bankruptcy, incompetency, or other specified events.

When may a court order dissolution of an LLC?

When profitable operation is no longer possible or serious member misconduct has occurred.

Testable Issue: What are the principal characteristics of an LLC?

It combines partnership flexibility and pass-through taxation with corporate-style limited liability and separate legal entity status.

Testable Issue: What governs an LLC's internal affairs?

The operating agreement first, applicable LLC statutes second, and general partnership law if neither provides guidance.

Testable Issue: What is the difference between a member-managed and manager-managed LLC?

In a member-managed LLC every member manages, while in a manager-managed LLC only designated managers have authority to manage and bind the LLC.

Testable Issue: When may a court pierce the LLC veil?

When members exercise control to perpetrate fraud or injustice under a highly fact-specific analysis.

Testable Issue: What fiduciary duties apply to LLC members and managers?

The duties of loyalty, care, and good faith and fair dealing, which may be limited but not eliminated.

Testable Issue: What is the difference between dissociation and dissolution?

Dissociation is the departure of a member and does not necessarily end the LLC, while dissolution begins the process of terminating and winding up the LLC.

Essay Rule: How should you analyze an LLC?

Determine whether the LLC was properly formed, identify the applicable operating agreement and management structure, analyze member rights, limited liability, fiduciary duties, and veil-piercing issues, then determine whether dissociation or dissolution has occurred and apply the governing statutory and contractual provisions.

Master Synthesis: What is the framework for analyzing an LLC?

First identify the LLC as a separate legal entity with limited liability, then determine the governing operating agreement and management structure, analyze member rights, fiduciary duties, agency authority, and creditor remedies, evaluate any veil-piercing issues, and finally determine whether dissociation or dissolution affects the members' rights and the continuation of the business.