The LLC structure owes its popularity largely due to the advantages provided by its personal liability protection. That said, many entrepreneurs are drawn to this business model for the simplicity of its interest management. In other words, LLCs are easy to contain in their initial forms even after multiple sales of ownership.
The process of ownership transfer is usually delineated in the Operating Agreement, which is typically created after the formation documents are filed. As an internal document, the agreement is not part of the state requirements.
It’s drafted and authorized by the LLC’s initial members. With each transfer of ownership, the document is updated alongside the Articles of Organization. Both of these documents are critical for any process of sale or transfer of ownership.
The Main Ways of Transferring Ownership of LLC
The need to sell your business doesn’t always have negative connotations but it’s undoubtedly a herald of change for the entire enterprise. Common reasons for such a transfer include:
- Resignation/departure of one of the members;
- Replacing an old member or accepting a new one;
- Marital businesses facing a divorce process;
- Selling the entire company, either as a sole owner or as a membership group.
The transfer of ownership is conducted through a buy-sell agreement and is usually applied for:
- Transferring an ownership interest;
- Selling the entire company.
Either process is typically outlined in the Operating Agreement, though it depends on the company.
Transfer of Partial LLC Interest
In a multi-member LLC, each member holds a percentage interest. When the LLC brings in a new participant or when a member wants to sell their stake in the company, the distribution of ownership must be altered accordingly.
The procedures for the buy-out of an LLC member are typically detailed in the company’s buy-sell agreement. It could be part of the Operating Agreement or exist as a separate document.
Depending on the company, these provisions may be incredibly detailed while others could be vaguely instructive. An average buy-sell document usually sets the terms for a transfer, including:
- Qualifications used for taking on new members, i.e. this provision outlines conditions that future LLC members must meet to be accepted;
- Whether the LLC can buy out the shares from members that wish to transfer them;
- Rules for distributing the units of interest after the transfer/buy-out of a share;
- Procedures for approving the transfer among the members;
- Procedures for valuing the interest and the company overall prior to the transfer.
The valuation process is crucial for a successful ownership transfer since it assesses the worth of the departing member’s interest. This step is especially relevant for the companies that plan to buy the share from the member and redistribute it. These procedures must not be violated if the remaining members wish to avoid litigation and severe fines.
If the Operating Agreement doesn’t have relevant provisions or the company has no operating/buy-sell agreement in the first place, you might have to negotiate an agreement during the transfer itself. This is only possible with the approval of other members. Failing that, your other option to resolve this is by following default state laws.
In some states, you might be asked to dissolve the company in the event of ownership transfer, even if only one member chooses to depart. This is a form of default law applied to companies that don’t have an Operating Agreement or buy-sell agreement.
For this reason, most experts recommend drafting these agreements as soon as you form your company to minimize internal disputes during the buy-out or avoid default laws that tend to be somewhat inflexible. If you already have an Operating Agreement but find it severely lacking when it comes to the rules of transfer and dissolution, consider consulting your business attorney regarding the amendments.
Selling an LLC
Unlike partial transfers, selling an LLC isn’t wholly regulated by its Operating Agreement. Most Articles of Organization and Operating Agreements outline the routines for selling the company, but the valuation of shares, in this case, is a part of the buy-out contract between the owners and the buyer.
The obligation of finding a buyer and negotiating the price falls on the seller, in this case, the owner(s) of the LLC. What does this mean exactly? Here are the main steps that mark the process of selling an LLC:
- Consulting your formation documents: before making any rushed promises to potential buyers, make sure to check your Articles of Organization/Operating Agreement and see what they have to say about the process of selling the company;
- Negotiating the terms of the buy-out: it’s important to establish exactly what the buyer wants from the sale as not everyone is in it for buying the entire company—some buyers are only interested in purchasing business assets. A sure way to achieve clarity is by hiring an attorney who will work with the buyer or their representative on business valuation. The terms of the transaction are usually outlined in a memorandum prior to any contract;
- Drafting the buy-out agreement: once both parties agree on the terms, the buy-sell agreement is drawn to complete the transaction. In this case, a buy-sell agreement functions like any contract legally recognized in your registration state;
- Notifying the business registration agency: The change of ownership must be recorded with the secretary of state or sometimes another state registrar. Certain states don’t allow for the typical transfer of ownership. Instead, you will have to file for dissolution. After that, the new owner will form a new LLC using the purchased assets.
Notifications Regarding Transfer of Ownership in an LLC
The completion of the ownership transfer requires involved parties to update the documentation while notifying the authorities and relevant agencies.
- The Articles/Certificate of Organization: As the company’s primary formation document, the Articles must be amended with the updated information regarding company ownership. If applicable, membership certificates must be valued and reissued for the new members;
- The IRS: This step involves submitting Form 8822-B with the agency to notify them of the change of the LLC’s responsible party. The new owner might be required to obtain a new EIN for the LLC as well;
- Banks: If the LLC holds financial accounts, their financial service provider(s) must be notified of the ownership change;
- Registered Agent: As a person or entity responsible for representing your business, your registered agent must be informed of the change in control;
- Business registration agencies outside the home state: if your company is listed as a foreign LLC in one or multiple states, each of these states must be informed of the change.