A new Delaware case highlights the danger of not thinking through the consequences of the various provisions of your operating agreement. In 2002, Mr. and Mrs. Metzner deeded their home to the Metzner Family Limited Liability Company (“the LLC”). Originally the LLC was owned solely by Mr. and Mrs. Metzner, but then subsequently brought in their son as a third owner. They then sold their household goods to their son and stopped paying on their credit cards which had an outstanding balance of approximately $55,000. A judgment was eventually obtained against the Metzners and a charging order against the distributions from the LLC. Since the LLC only owned the home, however, there were no distributions made and the charging order was basically useless.
Mr. Metzner died in 2012. The creditors filed a claim against his estate based upon the judgment. The creditor claim was denied by the estate based upon the argument that the sole remedy remained the charging order. Unfortunately for the Metzners, the LLC operating agreement provided that upon the death of a Member, the LLC was dissolved unless the remaining members consented to its continuance in writing within 90 days. While there was an attempt by Mrs. Metzner and her son to establish that they had timely made the election, the Court ultimately determined that the Metzners were not believable and ultimately ordered the LLC dissolved and the assets distributed to pay the creditor claims.
While the Metzners are clearly not sympathetic characters in this botched asset protection scheme and there are a host of other problems with their plan, one question I have is why was this provision in the operating agreement in the first place? If the purpose of the LLC was to provide asset protection, why would you include a provision that defaults to dissolution? My guess is that it was never really considered when planning. My guess is that this provision was a vestige of a form LLC agreement that the law office used and was never even looked at or considered seriously prior to creating the agreement.
LLCs are a great tool. They can help to solve and address many problems. But in creating an operating agreement, it is important to consider how the provisions of that operating agreement may help or hurt the ultimate objectives of the planning. So there are several lessons from this case, first, don’t be dishonest. Second, know what the provisions of your agreement require and make sure they match your objectives. Finally, make sure you comply with what is required by the planning.
As with any legal planning document, we recommend regular review of your operating agreement by a competent attorney to make sure it stays current and works as expected.