By Lee R. Phillips
I sent out an email a couple weeks ago about the Florida Supreme Court setting aside the “charging order” protection an LLC is supposed to offer. I now apparently have a lot of students that have “sliced their wrists” and are bleeding to death. (I faint at the sight of blood – not really – but please don’t do the wrist thing.)
Take a deep breath and step back from the edge.
The “charging order protection” protects the assets of the company from your personal liabilities and creditors. If you have an accident on the street, the kid breaks his neck on your trampoline, or you get divorced, your personal assets are at risk. The stock in your corporation and the membership interests in your LLC are personal assets.
If you have a corporation and your creditor gets the judgment against you, he will get the stock in your corporation. Once he has the stock, he elects new officers and directors and controls the assets of the corporation. He has your corporation and can sell the assets or do whatever he wants.
If you have an LLC, when your creditor gets the judgment against you, he will get the membership interests of your LLC. BUT, the LLC is different. The law says he can’t affect the management of the LLC, take the assets or do anything to disturb the LLC. All the creditor can do is get a charging order, which is basically a lien against your membership shares.
If and when your LLC makes a distribution (pays a dividend), the creditor with the lien will get the dividend. He will keep getting the distributions until his lien amount is paid off.
The Florida Court
The Florida court said that the creditor (the FTC in this case) didn’t have to get a charging order and wait for a distribution. The government could immediately take control of the assets of the LLC and sell them to satisfy the judgment. The charging order protection was set aside.
It was a single member LLC, and the guy was really bad. He had hurt a lot of people and the government and the courts wanted to get those assets really bad. The court basically said that the single member LLC was “his,” and because he could sell the interests at any time without anyone’s approval, the statute that talked about charging orders in an LLC did not prevent the court from creating a remedy other than the charging order.
If there had been multiple members, the court would have had to consider the economic interests of the other members, and they probably wouldn’t have set aside the charging order protection afforded the LLC. However, the way the court arrived at its decision, the charging order protection for all LLCs in Florida could be set aside.
The dissenting opinion in the case pointed out that although the court had continually qualified their discussion of their logic in terms of a single member LLC, the decision could be read to apply to all Florida LLCs.
Here’s What You Do
- This is only in Florida.
- The court seemed to think their ruling only applied to single member LLCs.
- The corporate shield of a single member LLC was not affected.
- Other states haven’t made this ruling yet, and they may never make the ruling.
So what can you do?
Have a multiple member LLC. In non-community property states, that could be a spouse. I would give the other member about 5% or more interest. There is no magic number of 5%, but the IRS considers a “substantial investment” to be 5% or above.
If you have a single member LLC, just continue on (unless you’re in Florida). If your state comes out like Florida, then you may want to change to a multi-member LLC.
Remember that you are only losing the charging order protection. Your advisor, when you set up the LLC, probably never talked to you about charging orders. You got your LLC only for the “corporate shield” and never worried about charging order stuff.
Your “corporate shield” protection has not been affected by the Florida Supreme Court ruling, even in Florida with a single member LLC. So the Florida court took away something that 90% of LLC owners didn’t even know they had.
This whole Florida court thing is a big deal “legally,” but it isn’t something that you need to slice your wrists over. Your LLC (unless you are in Florida) will give you the same protection it always has, and the protection probably isn’t going to be taken away. It is certain your LLC corporate shield protection will not be taken away.
Just tuck the Florida court thing in the back of your mind and don’t resist setting up an LLC with spouse, kid, or someone else as a minor member.