When a Member Leaves an LLC

Business man walking awayLimited Liability Companies are generally intended to outlive their owners/members. Unless the LLC’s operating agreement specifies that the company dissolved when one member leaves the LLC, your business may continue on without the missing person. Outside of any other end-of-work agreement you may wish to use — such as nondisclosure agreements or non-compete contracts — there are only a few formalities you must follow when a member leaves your LLC.

The most important first step is to check your operating agreement.

Find Any Relevant Operating Agreement Provisions

Some LLC operating agreements have provisions for what to do when a member leaves the company. If such a provision exists, you must follow any self-imposed guidelines. If the outgoing member agrees to waive any rights he or she may have under the operating agreement, be sure to get the agreement in writing. You are not subject to any punishments or penalties if you do not follow the LLC’s operating agreement, but the outgoing member may sue the LLC if he or she is denied any rights.

Many operating agreements contain buyout clauses that explain how current or new members can obtain the LLC interest previously owned by the outgoing member. Even if a buyout clause does not exist, courts will generally expect current or new members to provide the outgoing member with his or her fair share of compensation representing his or her ownership interest in the LLC.

Buyout the Member’s LLC Ownership Interest

The outgoing member’s ownership interest can generally be dealt with in one of two ways. The first way is for the LLC itself to disburse a percentage of its assets equal to the member’s ownership interest. For instance, assume your LLC is valued at $1,000,000, Person A owns 50%, Person B owns 30%, and Person C owns 20%. If Person B wants to leave, the LLC may pay Person B $300,000 (30% of the LLC’s assets) in exchange for his ownership. The interest he had in the company will dissolve, and each remaining member will end up with a larger percentage of ownership. Exactly how the interest redivides itself among the current members is up to the current members.

Alternatively, the current or new members can buyout the ownership interest the outgoing member had. Using the same example, Person C could pay Person B $300,000 and obtain a greater share in the company. After such a trade, Person A would still own 50% of the LLC and Person C would now also own 50%. If she so desired, Person A could also make the same agreement and own 80% of the company after the deal. The remaining members could also each buy portions of the outgoing member’s interest if they so desired, splitting the 30% ownership in any way. Finally, Person D could buy part or all of Person B’s former ownership interest and become a new member in the LLC.

The operating agreement will often set limits on how ownership interests may be transferred. Frequently the agreement will have different rules for buyouts by current members and new members. In the absence of any such provision, it is generally assumed that ownership interest is freely transferrable; in other words, current members do not have to be consulted or give consent before a member can sell his ownership interest to another party.

If that fact makes you uncomfortable, amend your operating agreement immediately to provide guidance if this scenario occurs.

Notification to the State

Even if the outgoing member’s name appears on filings with the state, you probably do not have to notify the state of any ownership changes. However, it is generally a good idea to update any filings so that sensitive communications are not sent to the outgoing member. This is especially true if the outgoing member was the LLC’s registered agent.