Winding up an LLC

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Winding up an LLC. What is it? Who does it? How it's done? It is it over?

By David Tingstad Business Attorney At Beresford Booth PLLC. (425) 776-4100.

Published in: Business, Economy & Finance
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Winding up an LLC

  1. 1. Winding Up What is it? Who does it? How is done? When is it over? Once dissolution has been triggered, an LLC enters a dark and murky status of “winding up”. In the current economic environment, more and more LLCs have entered this stage, but most of us do not really know what “dissolution” really is, nor do we know what happens next. The purpose of this article is to identify what winding up means, who does it and how to know when your client has completed the process. Practical tips for each stage in the winding up process will be provided. What is “Winding Up”? I. In general, winding up is the period between dissolution of the LLC and filing a Certificate of Cancellation. Some states provide for filing of a Certificate of Dissolution, but not a Certificate of Cancellation. Many practitioners are confused when considering the status of an LLC following its dissolution. Dissolution does not terminate the existence of an LLC. Rather, the LLC’s status is converted from that of “a going concern” to one that is “winding up” its affairs and ceasing its operations. Some states do not require filing to dissolve the LLC, filing is permissive but some states require a filing upon completion of the winding up process. Most state acts explicitly prohibit a dissolved LLC from engaging in any activities except as is appropriate to wind up and liquidate its activities and affairs. However, some state a limited liability company continues after dissolution only for the purpose of winding up its activities. II. Who “Winds Up” and How Do They Do It? A. Who? In general, state LLC Acts and RULLCA allow an LLC to be wound up by its manager, members, and/or creditor/assignee. The members or managers may lack sufficient incentive to complete the winding up activities. As a result, many cases turn on the question of who may wind up the affairs of a dissolved LLC. In addition, all LLC statutes empower a court to wind up the business of the LLC, usually through a “trustee” or “receiver”. Most LLC Acts grant the trial court the full power to wind up and liquidate the assets and business of an LLC. The court’s discretion on whether to wind up the affairs of an LLC frequently depends upon the basis for dissolution. For example, if the basis for dissolution is because of deadlock between the members, a court may intervene to wind up the affairs of the LLC to protect the creditors of the LLC. However, if the LLC is profitable and solvent, a court is less likely to intervene to dissolve the LLC’s affairs because the members have an economic interest to protect. In other words, a court is more likely to stay out of a private dispute between members Winding Up Page 1 of 5 BERESFORD ♦ BOOTH PLLC 145 THIRD AVENUE SOUTH, SUITE 200 EDMONDS, WASHINGTON 98020 (425) 776-4100
  2. 2. that does not impact innocent third party creditors, but is more likely to intervene if the dispute between members harms or threatens to harm third party creditors. B. How: Gathering Assets and Resolving Liabilities. Persons winding up the business and affairs of an LLC may, in the name of, and on behalf of, the LLC, prosecute and defend suits, settle and close the business of the LLC, dispose of and transfer the property of the LLC, discharge the liabilities of the LLC and distribute to the members any remaining assets of the LLC. The primary function of winding up is to make reasonable provision for the LLC’s liabilities and to distribute to the members any remaining assets of the LLC. Following dissolution, the LLC should undertake a plan to wind-up its affairs. The plan should include a notice to known creditors, a method of disposing and conveying its property as well as collecting and dividing its assets. A plan for winding up should include a minimum of the following: 1) 2) 3) 4) 5) Consent to the dissolution (if applicable); Notice to known creditors including special notice for state tax purposes, which includes a deadline to provide the amount of the creditor’s claim and any supporting documentation for the claim; Identification of claims and their priority and how the priority of claims will be determined; Distribution of assets; and State filing if necessary. After all known debts and liabilities of the company have been paid or adequately provided for any remaining assets should be distributed to the members according to their respective rights and preferences. Of course, problems arise when there are insufficient assets to satisfy the debts and liabilities of the LLC. C. How: Making Provisions for Creditors. (a) Upon the winding up of a limited liability company, the assets shall be distributed as follows: (1) To creditors, including members and managers who are creditors, to the extent otherwise permitted by law, in satisfaction of liabilities of the limited liability company (whether by payment or the making of reasonable provision for payment thereof) other than liabilities for which reasonable provision for payment has been made and liabilities for distributions to members and former members under §18-601 or §18604 of this title; (2) Unless otherwise provided in a limited liability company agreement, to members and former members in satisfaction of liabilities for distributions; and Winding Up Page 2 of 5 BERESFORD ♦ BOOTH PLLC 145 THIRD AVENUE SOUTH, SUITE 200 EDMONDS, WASHINGTON 98020 (425) 776-4100
  3. 3. (3) Unless otherwise provided in a limited liability company agreement, to members first for the return of their contributions and second respecting their limited liability company interests, in the proportions in which the members share in distributions. (b) A limited liability company which has dissolved: (1) Shall pay or make reasonable provision to pay all claims and obligations, including all contingent, conditional or unmatured contractual claims, known to the limited liability company; (2) Shall make such provision as will be reasonably likely to be sufficient to provide compensation for any claim against the limited liability company which is the subject of a pending action, suit or proceeding to which the limited liability company is a party; and (3) Shall make such provision as will be reasonably likely to be sufficient to provide compensation for claims that have not been made known to the limited liability company or that have not arisen but that, based on facts known to the limited liability company, are likely to arise or to become known to the limited liability company within 10 years after the date of dissolution. If there are sufficient assets, such claims and obligations shall be paid in full and any such provision for payment made shall be made in full. If there are insufficient assets, such claims and obligations shall be paid or provided for according to their priority and, among claims of equal priority, ratably to the extent of assets available therefor. Unless otherwise provided in the limited liability company agreement, any remaining assets shall be distributed as provided in this chapter. Any liquidating trustee winding up a limited liability company’s affairs who has complied with this section shall not be personally liable to the claimants of the dissolved limited liability company by reason of such person’s actions in winding up the limited liability company. (c) A member who receives a distribution in violation of subsection (a) of this section, and who knew at the time of the distribution that the distribution violated subsection (a) of this section, shall be liable to the limited liability company for the amount of the distribution. For purposes of the immediately preceding sentence, the term “distribution” shall not include amounts constituting reasonable compensation for present or past services or reasonable payments made in the ordinary course of business pursuant to a bona fide retirement plan or other benefits program. A member who receives a distribution in violation of subsection (a) of this section, and who did not know at the time of the distribution that the distribution violated subsection (a) of this section, shall not be liable for the amount of the distribution. Subject to subsection (d) of this section, this subsection shall not affect any obligation or liability of a member under an agreement or other applicable law for the amount of a distribution. Winding Up Page 3 of 5 BERESFORD ♦ BOOTH PLLC 145 THIRD AVENUE SOUTH, SUITE 200 EDMONDS, WASHINGTON 98020 (425) 776-4100
  4. 4. (d) Unless otherwise agreed, a member who receives a distribution from a limited liability company to which this section applies shall have no liability under this chapter or other applicable law for the amount of the distribution after the expiration of 3 years from the date of the distribution unless an action to recover the distribution from such member is commenced prior to the expiration of the said 3-year period and an adjudication of liability against such member is made in the said action. Some states provide that reasonable provision requires the dissolved LLC to make provision sufficient to provide compensation for claims that have not been made known to the LLC but are likely to arise within 10 years after the date of dissolution. A number of states do not include provisions for creditors with unknown claims. It is critical to make reasonable provisions for creditors because in the event the LLC fails to make reasonable provisions for creditors the members will be personally responsible to the extent of any distributions of assets made to them. III. When is the Winding Up Process Complete? From a practical perspective, winding up is completed when all debts, liabilities, and obligations of the LLC have been paid, or a reasonable adequate provision is made for them, and all remaining property has been distributed to the LLC members. Most state LLC Acts do not require the winding up process be completed in a certain period of time, rather, winding up must proceed as soon as reasonably practicable. There is risk in making any distribution to members during the winding up process because a cause of action against a dissolved LLC may be enforced against the LLC members to the extent the company’s assets were distributed to them upon dissolution without making reasonable provision for creditors. As for a requirement of a filing to give notice to completion of winding up, State law may require no filing (e.g. Washington), one filing, such as a certificate of cancellation or articles of dissolution (e.g. Delaware, Texas and Virginia), or two filings: statement of intent to dissolve and articles of dissolution (e.g. Colorado and Florida). IV. What should the LLC Agreement Say About Winding Up? Most provisions of state LLC Acts can be modified by the LLC Agreement. For example, in Virginia, their LLC statute provided for winding up by members who had not wrongfully dissolved, but the court allowed that statutory restriction to be modified so the manager of the company could wind up the company’s affairs. The LLC Agreement should identify the person or persons who will wind up the affairs of the company and the process to be used. Members who have loaned money to the LLC should have the same priority as other non-member creditors of the company. Frequently LLC Acts do not allow for that distinction unless it is stated in the company’s LLC Agreement. It should also Winding Up Page 4 of 5 BERESFORD ♦ BOOTH PLLC 145 THIRD AVENUE SOUTH, SUITE 200 EDMONDS, WASHINGTON 98020 (425) 776-4100
  5. 5. provide for compensation for the person completing the winding up process, and that the person winding up will have no personal obligation for winding up the company’s affairs. Other provisions may be necessary, depending on the nature of the company, such as the right to an accounting or right to complete work in progress of a professional firm. V. Conclusion Upon dissolution, the winding up process begins. Often, the dissolution trigger dictates how the winding up process will work and a winding up plan should be adopted to protect the personal liability of the members by making reasonable provision for the company’s creditors. Once the assets have been collected, provision made for creditors and the balance (if any) of the assets are distributed to the members, state law determines whether a filing is required. Now you know the, what, who, how and when of winding up. Winding Up Page 5 of 5 BERESFORD ♦ BOOTH PLLC 145 THIRD AVENUE SOUTH, SUITE 200 EDMONDS, WASHINGTON 98020 (425) 776-4100

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