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It seems that the courts in more States in the U.S. might start to grant judicial foreclosure on single-member LLCs. So, my question is, is husband and wife owned LLC in community property States regarded as Single-Member LLC? If so, what is the cure besides adding at least one new member?

EDIT: revised the tone of likeliness of more States granting judicial foreclosures.

  • Could you clarify which jurisdiction you are asking about? You mention "states", so I assume United States? Also, could you add some context to your question? – sleske Jul 6 '17 at 11:16
  • I am in Washington State. Sorry I did not specify in the first place in hope for a more generalized answer. Regarding the context, I was referring to Olmstead v. FTC, Case No . SC08-1009 (Fla. June 24, 2010) and In re Albright, 291 BR 538 (D. CO 2003). And I also read frim nolo.com that given the evolving nature of this particular subject, States which do not specify charging order as exclusive remedy will potentially allow foreclosure in future court cases. – Ryan L Jul 6 '17 at 14:26
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In re Albright, 291 BR 538 (Bk. Colo. 2003) is a "reverse piercing" case which involves different considerations than ordinary veil piercing. The Court in that case reasoned that if the debtors in bankruptcy were the only people with any ownership interest in the LLC that the debtors' control passed to the bankruptcy trustee notwithstanding the general rule under Colorado law that a transferee of a member of an LLC loses all control rights in the company.

In part, this decision flows from the particular feature of Colorado LLC law at the time that the default rule otherwise would have been that no one at all would ever have any right to control the operations or management of the LLC because there was no statute providing for who could control an LLC in Colorado which had no members because all members of the LLC were transferees of members without voting or control rights.

The fact that the LLC was a single member LLC is really less relevant than the fact that all owners of the LLC were bankrupts and that no one else had any control rights with regard to the company.

Also, importantly, Albright is not, as the question claims, a "judicial foreclosure". It is an exercise of the rights of a bankruptcy trustee whose is carrying out right to ownership of the debtor's property in accordance with federal bankruptcy law that overrides conflicting state law. Essentially, the Court ruled that notwithstanding the plain language of state law that a bankruptcy trustee is a substitute member of an LLC with the same control rights as the debtor, rather than an economic interest owner with no control rights as would be the case normally in a voluntary transfer of a membership interest without the permission of the other members to admit the new member.

So, under the reasoning of Albright any bankrupt debtor whose membership interest was transferred to the bankruptcy trustee who had the power to dissolve the company would give the bankruptcy trustee the same power, even if the LLC was not a single member LLC.

Olmstead v. FTC, Case No . SC08-1009 (Fla. June 24, 2010) is also a reverse piercing case. It involves a debtor of an owner of an LLC trying to seize the ownership interest, just as a creditor of an owner of a corporation could seize the shares of the corporation that the debtor owns including all voting rights in the corporation. The seizure of the assets of the LLC is only indirect as a result of the control rights obtained by seizing ownership of the ownership interest of the debtor.

But, unlike Albright, Olmstead does not involve a bankruptcy court and in instead an attempt to enforce a judgment against the owner of an entity.

In answer to that question, the Court in Olmstead holds that:

For the reasons we explain, we conclude that the statutory charging order provision does not preclude application of the creditor‘s remedy of execution on an interest in a single-member LLC.

As a matter of policy, the concerns associated with veil piercing are very different from the concerns associated with "reverse piercing" by allowing a creditor to seize by execution the membership interests of a debtor, so I would expect the trend to continue. There is no good policy reason to deny a creditor the right to an ownership interest in an entity of a debtor when the exemption law of a state do not so provide, as they generally do not.

Similar laws have disregarded self-settled trusts as a defense against the settlor's creditors.

  • thank you for your detailed explanation. It was way over my comprehension capacity, but I learn quite some new stuff there. I might not catch your point correctly, but I'm still not sure how to resolve/prepare for SMLLC dilemma in community property state (Washington) as me and my wife are only owners of the LLC. – Ryan L Jul 7 '17 at 4:25
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    @RyanL Do you have any legitimate reason to try to prevent reverse piercing if there is a judgment against you individually and the LLC interest is one of your major assets? If you can't articulate a legitimate reason to do so, there is a good chance that courts will allow it. Limited liability is designed to protect owners from LLC level liability not to protect LLC membership interests from an owner's debts in a manner different than any other community property asset. – ohwilleke Jul 7 '17 at 4:31
  • No, I don't have any reason. I just intuitively try my best to protect my castle by any legal means. – Ryan L Jul 7 '17 at 4:33
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    @RyanL The matter probably isn't settled one way or the other in Washington State right now, but unless you can articulate a good reason, the odds that the law would find against you if push came to shove are strong. Realistically, a better approach to protecting your castle would be to purchase umbrella insurance which is quite cheap and will pay for most liabilities you could incur in your personal life up to a high dollar threshold, or to stuff a lot of $$ into retirement accounts that are exempt from creditors. – ohwilleke Jul 7 '17 at 4:40
  • Thank you ohwilleke for your time and advice. Regarding insurance, I didn't have more knowledge than knowing it's the first line of defense and essential. It acts like bait but not always reliable. Often times professional creditors will settle for the insurance after knowing the castle is well guarded. My understanding might be too partial, but this is where I am from. – Ryan L Jul 7 '17 at 4:48

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