Single Member LLCs Corporate Shield at Risk

Single member LLCs corporate shield protection has been called into question by a few state courts and laws. LLCs or Limited Liability Companies are unique, because they are designed to give the owner a “corporate shield” that protects them from liabilities of the company. This shield is just like the corporate shield in a corporation. It protects the shareholders and owner from the liabilities of the company. The LLC also has an element of a partnership protection. It protects the company from the personal debts and liabilities of an individual member by making the creditors of the individual get a “charging order” against the company. This means that basically the LLC, if structured correctly, can provide a double asset protection. Recently, however, this charging order protection has been weakened in single member LLCs.

Single Member LLCs and the Corporate Shield Protection Weakened

Single Member LLCs and the Corporate Shield Protection been slowly been weakened in several states. First in n re: Ashley Albright, Debtor, Case No. 01-11367 – ABC, Chapter No. 7 (2003 Bankr. D. Co. LEXIS 291) a Bankruptcy Court held that the Single Member LLC was an asset available to the creditors of the Bankruptcy debtor.

Next the Florida Supreme Court ruled in the Olmstead case that the personal creditors of the LLC owner could come directly against the LLC assets. The creditor was simply given the assets of the LLC to satisfy the LLC owner’s debt. This means Florida has come out against the charging order protection that the Revised Uniform LLC Act says single member LLCs should enjoy.

More recently, a case out of Montana, In re Jonas, 2012 WL 2994724 (Bkrtcy.D.Mont., Slip Copy, July 23, 2012), came down the same ruling as the Albright case. This leads many to speculate that the single member LLC asset protection is being substantially weakened.

Finally some states such as Utah have legislatively stripped single member LLCs of charging order protection. It is important to understand that this does not mean a single member LLC doesn’t offer a “corporate shield” protection of the owners from activities of the LLC. It simply means that personal creditors of the owners can use assets of the LLC to satisfy their debts. However the multi-member LLC is not subject to these rulings.

Multi-Member LLCs, Unlike the Single Member LLCs, Double Asset Protection Not Affected

The good news is that multi-member LLC’s double asset protection is not affected. The reason multi-member LLC’s corporate shield protection is not affected lies in the history of partnership law. In a partnership, each of the partners is subject to the same law. Any act of one partner binds the others. Each partner is jointly and severally liable for the acts of the other partners. Historically if a partner got in trouble, even if it was a personal problem, they could lose their partnership interest. This meant that the other partners could suddenly find themselves with a new partner. This partner could unilaterally bind the other partners, shut down the partnership, and sell the assets of the partnership for their benefit – not a good situation for the other partners.

In order to protect the other partners the concept of a “charging order” was created under English law. When a creditor got a judgment, he was then required by law to get the charging order. This order prevented the new “partner” (creditor) coming in and affecting the partnership. The creditor basically got a lien, or an “economic interest” in the partnership. Sure the original partner lost in the judgment. All the creditor got was the benefit of any profit that is split up among the partners. He has no say in how the business is run and can’t access the assets of the partnership.

With all of the new legal rulings when you form an LLC, you should seriously consider having a multi-member LLC. In my LLC Wizard, I walk through all of these legal technicalities, so you get the best LLC. Sure in most states a single member LLC still enjoys charging order protection from its owner’s debts, but the cases are starting to stack up against single member LLCs. What this means is that when forming an LLC, it is better to have multi-members.