When you formed your New York limited liability company (LLC), you probably did so with the intention of shielding your personal assets from creditors. Generally speaking, a member’s assets are in fact well shielded from creditors that have judgments against the LLC itself. That said, the same doesn’t necessarily hold true in reverse. If you’ve got a personal judgment against you, traditional thinking in most jurisdictions holds that creditors cannot go after an LLC’s assets to satisfy a personal judgment against one of its members. Not so much the case in New York. For better or worse, New York does not provide LLCs nearly as much protection from members’ personal debts as some other states.
How much less protection does New York offer its domestically formed LLCs than some other states? Quite a bit actually, to the tune of you potentially losing your interest in the business. Compared with most states, there is no doubt that this is a drastic remedy. For its own reasons, the New York legislature choose to implement these less protective measures in order to seemingly strengthen creditors’ rights. Whether or not this was an intentional result, it’s nonetheless the reality of doing business in our fair state, and one of the reasons New York LLCs are one of the least attractive choices for businesses as far as protection from personal creditors are concerned.
Another stark difference between New York LLCs and those of some other states is the unrecognized distinction between single member and multi-member LLCs. Many states offer multi-member LLCs greater protection from their members’ personal creditors than compared to single member LLCs. Single member LLCs are in general thought to be more susceptible to personal creditors because there are no other members’ rights at state, unlike in a multi-member LLC. New York makes no such distinction. The personal creditor of a member has the same rights against a single member LLC as it does against a multi-member LLC, and those rights are extensive.
All of that said, what tools might a personal creditor use to go after a member’s LLC interests? There are a few weapons available, and all of them can be potentially devastating to the business. The first and probably most widely instrument used is known as a charging order. These are literally legal orders issued by a court which direct an LLC’s manager to pay over any income or profits that a debtor-member would otherwise receive to the member’s personal judgment creditor. However, if the member has no distributions coming to him, charging orders may not be a particularly effective collection tool.
Since New York law doesn’t provide that charging orders are an exclusive remedy, creditors can actually go after the member’s interest in the LLC itself. Creditors have the ability to foreclose on a member’s LLC interest, thereby allowing the creditor to quite literally take over and become the permanent owner of that member’s financial stake in the LLC. Depending on circumstances, creditors may be able to take that assumed ownership interest a step further. In some instances, courts will dissolve an LLC and sell off its assets for the exclusive purpose of satisfying the creditor’s judgment. Although still possible, this latter recourse is less likely to occur when the entity is a multi-member LLC and the court has the interests of other parties to consider.
While the introduction of LLCs in New York has overall been a great thing for business in the state, they are still a relatively new beast in our jurisdiction which courts and the legislature are still coming to terms with. I still encourage individuals to consider them as a more than viable option for conducting business when appropriate, but they first need to understand the limitations of an LLC compared with their intended goals (asset protection versus conducting business). Always consult with experienced counsel before endeavoring forward so you fully understand the possible ramifications of your choice.