Copyright © 2004 by Prentice-Hall. All rights reserved. PowerPoint Slides to Accompany BUSINESS LAW E-Commerce and Digital Law International Law and Ethics 5 th Edition by Henry R. Cheeseman Slides developed by Les Wiletzky Wiletzky and Associates, Puyallup, WA Chapter 34 Limited Liability Companies Chapter 34 Limited Liability Companies

34 - 2Copyright © 2004 by Prentice-Hall. All rights reserved. Entrepreneurial Forms of Conducting Business Sole Proprietorship General Partnership Limited Partnership Limited Liability Partnership Limited Liability Company Corporation

34 - 3Copyright © 2004 by Prentice-Hall. All rights reserved. Limited Liability Company (LLC)  An incorporated business entity that combines the most favorable attributes of general partnerships, limited partnerships, and corporations.  An LLC may elect to be taxed as a partnership.  The owners can manage the business.  The owners have limited liability.

34 - 4Copyright © 2004 by Prentice-Hall. All rights reserved. Limited Liability Company (LLC) (continued)  Limited liability companies are creatures of state law, not federal law.  Limited liability companies can only be created pursuant to the laws of the state in which the LLC is being organized. Limited liability company codes regulate the formation, operation, and dissolution of LLCs. Limited liability company codes regulate the formation, operation, and dissolution of LLCs.

34 - 5Copyright © 2004 by Prentice-Hall. All rights reserved. Limited Liability Company (LLC) (continued)  Legal Entity – An LLC is a separate legal entity (an artificial person) that can: Own property Own property Sue and be sued Sue and be sued Enter into and enforce contracts Enter into and enforce contracts Be found civilly and criminally liable for violations of law Be found civilly and criminally liable for violations of law

34 - 6Copyright © 2004 by Prentice-Hall. All rights reserved. Limited Liability Company (LLC) (continued)  Member – an owner of an LLC. Members have limited liability. Members have limited liability. Members are liable for the LLC’s debts, obligations, and liabilities only to the extent of their capital contributions. Members are liable for the LLC’s debts, obligations, and liabilities only to the extent of their capital contributions.

34 - 7Copyright © 2004 by Prentice-Hall. All rights reserved. Limited Liability Company (LLC) (continued) Liability limited to capital contribution No personal liability for company’s debts and obligations Capital investment Debt or obligation owed Limited Liability Company (LLC) Third Party MemberMemberMemberMember

34 - 8Copyright © 2004 by Prentice-Hall. All rights reserved. The Uniform Limited Liability Company Act (ULLCA)  A model act that provides comprehensive and uniform laws for the formation, operation, and dissolution of LLCs.  The ULLCA is not law unless a state adopts it as its LLC statute.  Many states have adopted all or part of the ULLCA as their limited liability company law.

34 - 9Copyright © 2004 by Prentice-Hall. All rights reserved. Organizing Procedures  Lawful Purpose – An LLC may be organized for any lawful purpose. Most LLCs are organized to operate businesses and real estate developments. Most LLCs are organized to operate businesses and real estate developments.  Selecting a State for Organization – An LLC can be organized in only one state even though it can conduct business in all other states.

Copyright © 2004 by Prentice-Hall. All rights reserved. Organizing Procedures (continued)  Selecting an LLC’s Name – The name selected must meet the requirements of the LLC codes of the states that are under consideration.

Copyright © 2004 by Prentice-Hall. All rights reserved. Organizing Procedures (continued)  Filing the Articles of Organization – An LLC is formed by delivering articles of organization to the office of the secretary of state of the state of organization for filing. The existence of an LLC begins when the articles of organization are filed. The existence of an LLC begins when the articles of organization are filed.

Copyright © 2004 by Prentice-Hall. All rights reserved. Organizing Procedures (continued)  Duration – At-Will LLC – An LLC that has no specified term of duration At-Will LLC – An LLC that has no specified term of duration Term LLC – An LLC that has a specified term of duration Term LLC – An LLC that has a specified term of duration

Copyright © 2004 by Prentice-Hall. All rights reserved. Organizing Procedures (continued)  Member’s Capital Contribution – may be money, tangible or intangible property, services performed or promised to be performed, promissory notes, or other agreements to provide cash or property.

Copyright © 2004 by Prentice-Hall. All rights reserved. Organizing Procedures (continued)  Agent for Service Process – An LLC must designate an agent in the state of organization to receive service of process, notices, and demands if the LLC is sued or involved in an administrative proceeding.

Copyright © 2004 by Prentice-Hall. All rights reserved. Organizing Procedures (continued)  Certificate of Interest – Document that evidences a member’s ownership interest in an LLC. Acts the same as a stock certificate issued by a corporation. Acts the same as a stock certificate issued by a corporation.

Copyright © 2004 by Prentice-Hall. All rights reserved. Conversion of an Existing Business to an LLC  Some existing businesses (i.e., general partnerships, limited partnerships, and corporations) may want to convert to an LLC. Want to obtain the tax benefits and limited liability shield of an LLC. Want to obtain the tax benefits and limited liability shield of an LLC. The law permits such conversions. The law permits such conversions.

Copyright © 2004 by Prentice-Hall. All rights reserved. Conversion of an Existing Business to an LLC (continued)  Agreement of Conversion – Document that states the terms for converting an existing business to an LLC.  The conversion takes effect when the articles of organization are filed with the secretary of state or at any later date specified in the articles of organization.

Copyright © 2004 by Prentice-Hall. All rights reserved. Foreign Limited Liability Company  An LLC organized in one state may conduct business in another state.  Domestic LLC – An LLC in the state in which it is organized.  Foreign LLC – An LLC in any state other than the one in which it is organized.  Alien LLC – An LLC that is organized in another country.

Copyright © 2004 by Prentice-Hall. All rights reserved. Foreign Limited Liability Company (continued)  Certificate of Authority – Formal document that must be issued by the secretary of state before a foreign LLC may conduct business in that state.

Copyright © 2004 by Prentice-Hall. All rights reserved. Operating a Limited Liability Company: Powers of an LLC  An LLC has the same powers as an individual to do all things necessary or convenient to carry on its business or affairs. The power to own and transfer personal property The power to own and transfer personal property Sell, lease and mortgage real property Sell, lease and mortgage real property Make contracts and guarantees Make contracts and guarantees Borrow and lend money Borrow and lend money Issue notes and bonds Issue notes and bonds Sue and be sued Sue and be sued

Copyright © 2004 by Prentice-Hall. All rights reserved. Operating a Limited Liability Company: Operating Agreement  An agreement entered into among members that governs the affairs and business of the LLC and the relations among members, managers, and the LLC.  The operating agreement may be amended by the approval of all the members unless otherwise provided in the agreement.

Copyright © 2004 by Prentice-Hall. All rights reserved. Operating a Limited Liability Company: Liability of the LLC  An LLC is liable for any loss or injury caused to anyone as a result of a wrongful act or omission by a member, manager, agent, or employee of the LLC who commits the wrongful act while acting within the ordinary course of business of the LLC or with authority of the LLC.

Copyright © 2004 by Prentice-Hall. All rights reserved. Operating a Limited Liability Company: Member-Managed LLC  In a member-managed LLC, all members can bind the LLC to authorized contracts.  Each member has equal rights in the management of the business irrespective of the size of his or her capital contribution.  Any matter relating to the business of the LLC is decided by a majority vote of the members.

Copyright © 2004 by Prentice-Hall. All rights reserved. Operating a Limited Liability Company: Manager-Managed LLC  In a manager-managed LLC, only the managers can bind the LLC to authorized contracts.  The members and non-members who are designated managers control the management of the LLC.  The members who are not managers have no rights to manage the LLC unless otherwise provided for in the operating agreement.

Copyright © 2004 by Prentice-Hall. All rights reserved. Operating a Limited Liability Company: Restrictions on Contracting Authority  Restrictions on members’ and managers’ authority to bind the LLC to contracts in the articles of organization are effective against third parties.  Restrictions on contract authority contained in the operating agreement are only effective against parties who are given notice of the restriction.

Copyright © 2004 by Prentice-Hall. All rights reserved. Operating a Limited Liability Company: Compensation and Reimbursement  A non-manager member is not entitled to remuneration for services performed for the LLC (except for winding-up the LLC).  Managers of an LLC are paid compensation and benefits as specified in their employment agreements with the LLC.  An LLC is obligated to reimburse members and managers for payments made on behalf of the LLC.

Copyright © 2004 by Prentice-Hall. All rights reserved. Operating a Limited Liability Company: Members’ Distributional Interest  A member’s ownership interest in an LLC that entitles the member to receive distributions of money and property from the LLC.  A transferee of a distributional interest in an LLC receives the right to receive profit and other distributions of the LLC.

Copyright © 2004 by Prentice-Hall. All rights reserved. Fiduciary Duties to the LLC Duty of Loyalty Duty of Care

Copyright © 2004 by Prentice-Hall. All rights reserved. Duty of Loyalty  A duty owed by a member of a member- managed LLC and a Manager-managed LLC to be honest in his or her dealings with the LLC and not to act adversely to the interests of the LLC.

Copyright © 2004 by Prentice-Hall. All rights reserved. Duty of Loyalty (continued)  Breaches of the duty of loyalty by a covered member or manager include: Usurping an LLC opportunity Usurping an LLC opportunity Making secret profits Making secret profits Secretly dealing with the LLC Secretly dealing with the LLC Secretly competing with the LLC Secretly competing with the LLC Representing any interest adverse to that of the LLC Representing any interest adverse to that of the LLC

Copyright © 2004 by Prentice-Hall. All rights reserved. Duty of Care  A duty owed by a member of a member of a member-managed LLC and a manager of a manager-managed LLC to not engage in conduct that injures the LLC: A known violation of law A known violation of law Intentional conduct Intentional conduct Reckless conduct Reckless conduct Grossly negligent conduct Grossly negligent conduct

Copyright © 2004 by Prentice-Hall. All rights reserved. Duty of Care (continued)  A member or manager of an LLC is not liable to the LLC for injuries caused to the LLC by his or her ordinary negligence.  The ordinarily negligent member or manager, and the LLC on whose behalf the member or manager was acting when the negligent act occurred, are liable to the injured third party.

Copyright © 2004 by Prentice-Hall. All rights reserved. Duty of Good Faith and Fair Dealing  The ULLCA imposes an obligation of good faith and fair dealing on a member of a member-managed LLC in discharging his or her duties to the LLC and its other members.

Copyright © 2004 by Prentice-Hall. All rights reserved. No Fiduciary Duty Owed by a Non-manager Member  A non-manager member of a manager- managed LLC owes no fiduciary duties of loyalty, care, or good faith and fair dealing to the LLC or its members.

Copyright © 2004 by Prentice-Hall. All rights reserved. Dissolution  The ULLCA gives a member of an LLC the power to disassociate him- or herself from the LLC.  This could cause the dissolution of the LLC.

Copyright © 2004 by Prentice-Hall. All rights reserved. Winding-Up an LLC’s Business  The process of preserving and selling the assets of the LLC and distributing the money and property to creditors and members.  Creditors are paid first.  Thereafter, surplus amounts are distributed to members in equal amounts unless the operating agreement provides otherwise.

Copyright © 2004 by Prentice-Hall. All rights reserved. Articles of Termination  Document that is filed with the secretary of state (of the state in which the LLC is organized) that terminates the LLC as of the date of filing or upon a later effective date specified in the document.