Cautionary Tale: Charging Order Upon Death of Debtor, Losing All the Limited Liability Company Asset Protection Benefits

July 20, 2017

The Delaware Chancery Court has now ruled on the continuing asset protection aspect of a charging order against assets in a 49% owned LLC. In that court case, a charging order had been obtained by a creditor who wanted to seize the assets inside of the LLC.

The charging order however (as is many times the case) granted the creditor rights to the LLC assets only at the time the manager (who is usually also the debtor or a related party) decides to distribute the LLC assets out of the LLC. In this matter, the LLC owned just the home that the debtor used as his residence and therefore never had any reason to make any distributions (and now, even more so, the debtor had an extra incentive to not make any distributions, ever!).

What happens though when the debtor member (who apparently was also an LLC manager) dies and the LLC agreement (a/k/a the “operating agreement”) had the provisions (which I frequently still see in these agreements) that (A) forced the termination/liquidation of the LLC in the event of a death of an LLC member and (B) in the absence of certain affirmative action being carried out very quickly after the death event, allows the creditor with the charging order to easily attach and seize the LLC assets. That is what in fact happened in this case and the creditor was able to attach the LLC assets at that point. This highlights the need for those who are relying on an LLC’s asset protective qualities to revisit the operating agreement to determine if it should be amended before a later event, such as a death, exposes the LLC assets, such as real estate, to a creditor’s reach.

By Edward D. Brown Esq., LLM. CPA

Cite: Delaware Acceptance Corp. v. Estate of Metzner, C.A. No. 8861-MA (May 22, 2017)

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