Staying Single (Member LLC)
Jeff Storch | 01.06.22
In an earlier post, we discussed how adding another member to a Wisconsin single-member LLC might improve the likelihood that a court would limit a creditor’s remedy against a member’s LLC interest to a charging order (rather than forcing a sale of the member’s LLC interest or of the LLC’s assets). However, adding another member has other consequences. This post discusses some of those consequences. In short, the added costs and responsibilities of adding another member should be considered carefully before switching from a single-member LLC to a multi-member LLC.
First, as discussed in the prior post, adding another member does not guarantee that a court would not impose a remedy other than a charging order. The Wisconsin charging order statute does not say that a charging order is an exclusive remedy available to creditors. Adding another member, particularly where there is not a genuine business-related reason to do so, may not be enough to prevent a court from allowing foreclosure upon an LLC member’s interest.
Next, adding another member likely will increase the complexity (and cost) of the LLC’s operating agreement. A multi-member LLC’s operating agreement should address tax, distribution, transfer restrictions, management, and other issues in more detail than may be needed where there is only a single member.
Other issues that arise when becoming a multi-member LLC include:
- Adding a member may increase tax-reporting complexity.
- By default, a single-member LLC can report its tax items on the member’s personal tax return and no separate tax return is required for the LLC. However, if another member is added, the default is that the LLC is taxed as a partnership and the LLC must file its own tax return, plus issue forms K‑1 to the members.
- Note however that if the LLC has elected to be taxed as a C or S corporation, then adding a member will not change the need for the LLC to file its own tax return, but may increase the number of forms that must be provided to its owners.
- If the new member was an employee of the LLC and the LLC will be taxed as a partnership, the new member no longer will be eligible to be treated as an employee for tax purposes, but instead must be treated as a partner.
- Under the Wisconsin LLC Act, members have a right to inspect certain LLC records.
- Under recent Wisconsin state and federal decisions, a majority member in an LLC may owe common law duties to minority members, though minority members may not owe duties to majority members.
- Issuing new LLC interests may implicate federal and state securities laws.
- In a member-managed LLC, granting ownership also grants management rights. While these rights can be limited in the operating agreement, doing so will further increase the complexity of the operating agreement.
Consequently, adding another member is not something to be done lightly. If there are proper business reasons to do so, the potential additional creditor protection of the charging order limitation might be a tipping point. However, all of these issues should be considered carefully and the LLC’s operating agreement updated before adding a member.
DISCLAIMER: The information provided is for general informational purposes only. This post is not updated to account for changes in the law and should not be considered tax or legal advice. This article is not intended to create an attorney-client relationship. You should consult with legal and/or financial advisors for legal and tax advice tailored to your specific circumstances.