4000 Hollywood Blvd. Suite 485 South Hollywood, FL 33021
CALL US TODAY: (954) 966-2112

News & Resources

PROTECTING YOUR LLC OR LIMITED PARTNERSHIP- BANKRUPTCY- PART 3

May 25, 2020 | Category: Asset Protection, Corporate and Taxation, Estate Planning and Probate, News

This is Part 3 of a series on Bankruptcy. This article will discuss the necessity of making the Limited Partnership Agreement or the LLC Operating Agreement an executory contract. 

Feel free to review Part 1 and Part 2.  

Many of our clients have set up LLCs and to a lesser extent, limited partnerships, in order to safeguard their non-exempt assets.  Assets that are not exempt under Florida law such as stocks, bonds, money market funds and real estate other than the homestead are placed in these entities.  For convenience, we will assume we are dealing with an LLC, although the rules are the same for limited partnerships.

If the LLC is owned by more than one person and there are no fraudulent conveyance issues (e.g., LLC formed and/or funded after the debt was incurred, etc.), a creditor of an LLC member’s sole remedy is a charging order.  This means that the creditor can only intercept distributions from the LLC that otherwise would go to the debtor-member.

If properly done, the creditor’s right is illusory. The creditor cannot vote in LLC maters, can’t force a distribution, and has no right to see the books and records of the LLC.  What often happens in this stand-off is that the creditor settles for pennies on the dollar.

Here we discuss the executory contract.  An executory contract is one in which a party’s failure to perform its obligation is substantial enough so that the other party is legally excused from its performance.  Many sales contracts are executory contracts.  If the seller does not perform by delivering the goods, the buyer is excused from his performance-to pay for the goods.

The LLC Operating Agreement is a contract.  In order to make it an executory contract, the members need to have material obligations such that if one member fails to do what is required under the Operating Agreement, the other members are legally excused from performing.  Such obligations can include funding their allocable share of capital calls, guaranteeing LLC obligations, and performing significant services.

If these requirements result in the Operating Agreement being treated as an executory contract, the Trustee in Bankruptcy under Chapter 7 (Liquidation) needs to decide if he or she wants to assume or reject the contract.  If the Trustee assumes the contact, he or she becomes a member with the same obligations as the debtor-member. While the Trustee would be the hook for a large financial obligation, the debtor-member would lose his or her interest.  If the Trustee rejects the contract, the debtor-member keeps his interest in the LLC.  Most likely the LLC interest will be rejected by the Trustee because it involves significant obligations. 

As a precaution against the Trustee actually assuming the LLC membership interest, we typically make most the LLC interest owned by a married couple as tenants by the entirety.  This means that unless both spouses are jointly liable to the same creditor, such membership interest does not become part of the bankruptcy estate and is not at risk.

If the Operating Agreement is not an executory contact, the Trustee takes the membership interest without the obligations under the Operating Agreement. The Trustee might then try to force a distribution from the LLC on the basis that the LLC has funds in excess of the needs of the business, and it would be a breach of fiduciary duty not to make a distribution.

This is what you need to do.  Ask your attorney to review your LLC Operating Agreement (or Limited Partnership Agreement) to verify that it constitutes an executory contact.  Otherwise, you may lose your interest in the LLC or Limited Partnership Agreement in bankruptcy.

Stay safe.  Stay well.

Material presented on the Kramer, Green, Zuckerman, Greene and Buchsbaum, P.A. website is intended for information purposes only. It is not intended as professional advice and should not be construed as such. The material presented on this site is included with the understanding and agreement that Kramer, Green, Zuckerman, Greene and Buchsbaum, P.A.is not engaged in rendering legal or other professional services by posting said material. The services of a competent professional should be sought if legal or other specific expert assistance is required. Any unauthorized use of material contained herein is at the user’s own risk. Transmission of the information and material herein is not intended to create, and receipt does not constitute, an agreement to create an attorney-client relationship with Kramer, Green, Zuckerman, Greene and Buchsbaum, P.A. or any member thereof. This website is not intended to be advertising and Kramer, Green, Zuckerman, Greene and Buchsbaum, P.A. does not wish to represent anyone desiring representation based upon viewing this website in any state or jurisdiction where this website fails to comply with all laws and ethical rules. This website is not intended to constitute legal advice or the provision of legal services. By posting and/or maintaining this website and its contents, Kramer, Green, Zuckerman, Greene and Buchsbaum, P.A. does not intend to solicit legal business from clients located in states or jurisdictions where Kramer, Green, Zuckerman, Greene and Buchsbaum, P.A. or its individual attorneys are not licensed or authorized to practice law. Some links within this website may lead to other sites. Kramer, Green, Zuckerman, Greene and Buchsbaum, P.A. does not necessarily sponsor, endorse or otherwise approve of the materials appearing in such sites.

© Copyright 2015 Kramer, Green, Zuckerman, Greene and Buchsbaum, P.A. All Rights Reserved. Sitemap | Law Firm Essentials by PaperStreet Web Design