Part 2 – 8 Bad “D”s of LLCs

By Jeffery S. Watson

This is the second in a series of emails discussing eight bad “D”s to consider when drafting an operating agreement for an LLC.

2. DEATH

The death of a member-owner of an LLC is probably the worst of the eight. With many states now allowing LLC operating agreements to have language in them saying that the membership certificate transfers on death to a party designated in writing on the membership certificate or set forth in the operating agreement, it can quickly lead to a situation in which the surviving members of the LLC may now find themselves in business with someone they did not anticipate working with, nor do they wish to continue to be in business with them.

Plans need to be in place to deal with the issues this scenario brings, such as key man insurance, buyout provisions, and accountability and accounting access. Anyone going into a multiple-member LLC business arrangement needs to consider these provisions in the operating agreement from the perspective of if they were the one who passed away, how would they want the other members of the LLC to treat their heirs or estate? Is there a fair and accurate valuation method to calculate the value of the LLC? Is there transparency as to the business activities, operations, and books and records of the LLC? Is there a clear mechanism as to how distributions will continue to be paid as the membership interest is bought back or transferred from the heirs?

All these things need to be thought through, talked through, and carefully drafted into the operating agreement.

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Until next time,

Jeffery S. Watson