In May of 2009 we published an article entitled 101 on the Series LLC in which we discussed the pros and cons of using the Series LLC. Here is a little recap of the May 2009 article:

Under Delaware law, a limited liability company (LLC) may be composed of individual series of membership interests. This type of entity is referred to as a Series LLC. Each series effectively is treated as a separate entity, meaning the debts, liabilities, obligations and expenses of one series cannot be enforced against another series of the LLC or against the LLC as a whole. Each series can hold its own assets, have its own members, conduct its own operations and pursue different business objectives, but remain insulated from claims of members, creditors or litigants pursuing the assets of or asserting claims against another series.

In that post we discussed the primary drawback of using the Series LLC; the lack of certainty surrounding whether courts in other states and jurisdictions would recognize a legal separation of assets and liabilities within what is technically a single entity.  As we discussed, even though the legal segregation of the series is set forth expressly by statute in Delaware, no court has ever been called upon to rule on the validity of the legal segregation of assets within a Series LLC or articulated the circumstances under which a court would ignore the distinction among series.

Many of you have reached out to us and inquired whether the courts or legislature have provided any guidance or clarification on some of the issues surrounding the Series LLC.  Unfortunately, there have no significant developments that alleviate the concern we expressed in the May post.

California has arguably supported the notion that each series of a Series LLC is a separate entity; the California Franchise Tax Board ruled that each Series of the Delaware LLC is responsible for the $800 annual California franchise tax. Although this is not welcome news for our California clients that employ the Series LLC structure, it supports the concept that each series should be considered a distinct entity. Other states are expected to follow the same path as California and charge an annual fee on a per series basis.

Additionally, the U. S. federal tax treatment afforded to individual series is still not certain.  For now, it appears the series of a Series LLC will generally each be taxed as a separate entity for federal income tax purposes.

For now, despite the theoretical savings in franchise taxes, registered agent fees and other costs, the Series LLC form is still a work in progress.  Regulators, attorneys and accountants are all grappling with issues raised by the possibility of legal segregation of assets and liabilities within a single entity.  Given this, while the Series LLC shows great promise and segregated cell companies are gaining in popularity and acceptance outside the U.S., typically most of our clients tend to use the safer alternative of creating separate entities for each venture.

Back in October, 2009 we discussed how the LLC is owned, operated and maintained in a post titled 101 on an LLC Agreement. Many clients have come to us with questions and are curious about the fact that Delaware LLC law provides for an oral LLC agreement.

The Delaware Supreme Court recently issued a decision that effectively requires all limited liability company agreements (“LLC Agreements”) for Delaware LLCs to be in writing.  The decision holds that LLC Agreements are subject to Delaware’s Statute of Frauds, which requires certain types of contracts to be in writing in order to be enforceable.  This decision appears to contradict the express language of Section 18-101 of the Delaware Limited Liability Company Act (the “Act”), which states that a limited liability company agreement may be “written, oral or implied”

Although clients typically commit an agreement to writing, some small or relatively newly formed LLCs operate pursuant to an oral understanding or implied course of dealing among the members. For example, members of an LLC may have orally agreed upon or may have simply accepted over time a certain distribution of profits and losses, or assumed that voting rights were distributed among the members in a certain way.

A member seeking to assert his or her rights in court, however, could not rely upon the oral agreement or implied understanding as an LLC Agreement governing the operations of the entity, despite the language of the Act.

This decision reinforces the importance of putting an LLC Agreement in writing as early as possible, and having all members sign the agreement. Business partners or investors in the first stages of an exciting business opportunity often do not foresee (or do not consider) the possibility of a later disagreement and the potential need to assert their respective rights, but putting the terms governing the operations of an LLC in writing at an early stage protects the interests of everyone involved.

Clients often ask us to articulate the benefits and drawbacks of forming and operating a business as a limited liability company (abbreviated as LLC) as opposed to a limited partnership (abbreviated as LP). LLCs and limited partnerships share certain common features, however, they differ in a number of important ways. This posting describes some of the key similarities and differences.

LLCs and limited partnerships are similar in that they are, and were intended to be, flexible business forms. The terms governing an LLC or limited partnership’s operations can be tailored to the needs of a specific business. For instance, to provide only a few examples, investors in an LLC or limited partnership can provide for whatever voting or economic terms they desire, and can alter the standard of care and fiduciary duties which participants in the business owe to one another. Delaware law provides certain limited default terms that will govern in the event that the operating agreement of the entity is silent on an issue, but the LLC and limited partnership forms are each intended to give maximum effect to the participants’ freedom to contractually provide for terms they deem appropriate.

The LLC and limited partnership are also similar in a much more practical way: each provides its investors with pass-through tax treatment.  Pass-through tax treatment means that the business itself is not subject to federal income tax, but each investor will be required to report separately on its income tax return for each year its distributive share of items of the business’s income, gain, loss and deduction, and will be taxed currently on that distributive share, regardless of whether the investor has received or will receive a distribution of cash or other assets from the fund.

The most important difference between the LLC and limited partnership form relate to personal liability of participants.

A limited partnership is managed by one or more general partners that control the day-to-day operations of the business. These general partners have unlimited personal liability for the debts and obligations of the limited partnership, meaning that they can be held personally liable for those debts and obligations. A limited partner does not have personal liability for partnership obligations, but is not permitted to participate extensively in the day-to-day management of the limited partnership. If a limited partner participates in a significant way in management, a court may treat that limited partner as though it were a general partner if the limited partnership is sued, and impose personal liability upon the investor. To avoid this personal liability, an entity such as a corporation (or, as described below, an LLC) may serve as the general partner of a limited partnership. However, creating a separate entity to serve as general partner adds additional cost and complexity, and could have adverse tax consequences.

The LLC was created by the Delaware legislature to provide the flexibility of a partnership while providing corporation-like protection against personal liability. An LLC can be managed by one or more of its members. Unlike in a limited partnership, however, a participant engaged in the management of the business is not personally responsible for the liabilities of the entity.

Given the personal liability applied in a limited partnership, many clients ask why a person would choose the limited partnership form. As noted above, the LLC is a relatively new type of business form (since 1992) and, as a result, the case law regarding LLCs is far less robust and settled than that applicable to limited partnerships. The predictability that a settled body of case law provides leads some to select the limited partnership form. However, the LLC has gained a lot of ground in popularity. Last year,  67% of the State of Delaware’s new formations were LLC’s while around 6 % are LP’s.

To form a Limited Partnership or Limited Liability Company please call us at 800 345 2677 opt 1, we are here and ready to assist!