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The Changes Coming for LLCs

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Limited Liability Companies (LLCs) have been one of our most important tools for business and estate planning since the early 90’s when LLC legislation was enacted in Minnesota. Like a corporation, an LLC provides liability protection for owners of businesses and real estate. But unlike a regular or C corporation, the LLC provides a pass through of profits and losses to the owners (much like an S corporation) without taxation both at the company and individual levels. Unlike an S corporation, there are no limitations on who can be an owner. Attorneys, CPAs, and financial planners continue to find ways to use this important tool for business operations, ownership of rental real estate, or even the family cabin. 

Now, in 2014, Minnesota has enacted a revised LLC law that significantly changes much of our LLC planning.  Fortunately, the legislature has provided a transition period from now to 2018.  But that doesn’t mean we can sit tight and do nothing between now and 2018.  The big changes seem to be changes in the way LLCs are governed, the legal obligations between and among owners, the need for an operating agreement for the company, and the financial and ownership relationship between owners.  The full details of these changes are beyond the scope of this article; however, here are a few thoughts.

Changes in Governance: Our original LLC act provided for organization and governance based on a corporate model with owners electing a board, and the board electing or choosing officers who run the day to day operations. The revised act now gives us 3 governance/management models: the board managed model (much like today’s model), an owner (member) managed model that is much like a partnership, and a manager (officer) managed model. The choice of model is made at the time of organization, but should not be made hastily since that model helps define authority and liability for the owners. 

Legal obligations between owners: The legal obligations, referred to as their fiduciary obligations, have been changed. Under current law, the owners must act in good faith and deal fairly with one another.  These standards have been significantly reduced and will primarily affect LLCs with inactive or silent owners who rely on others to run the company or operation.   

The Operating Agreement: While LLCs have, to date, utilized a combination of bylaws and member (owner) control agreements, the revised act now calls for an operating agreement which can be viewed as a combination of the two. Failure to deal with issues in the operating agreement leaves the owners exposed to default provisions of the law. 

Financial Relationship Between Owners: Financial and governance rights, well defined in our current law, will now have to be dealt with very differently in the operating agreement.  Without careful drafting, owners, even though they may make vastly different contributions financial and otherwise, will have fully equal rights to voting and distributions. 

Each of the rights and obligations can only be changed with a carefully drawn operating agreement.  

As to timing, new LLCs can be formed under the new law beginning August 1, 2015 but all LLCs will be governed by the new law beginning in 2018.  For LLCs formed before August 1st, steps can be taken to reduce the time and cost of later conversion.  In any case, all LLCs need to be reviewed and plans need to be made by August 1, 2015 for their transition.              

Feel free to contact me regarding any questions involving LLCs, for transition planning, and for or any other questions regarding your estate plan or other legal issues.