LLC Liability Limits

by Jeff Franco

A limited liability company business structure reduces the amount of business debts and obligations for which individual members are personally liable. However, this type of entity does not protect members who intentionally use the business to merely create a barrier to personal creditors with no bona fide business activity or use the structure to further criminal endeavors.

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Member Liability

Members of an LLC enjoy limitations on personal liability for activities within the scope of the LLC’s business. Most state law safeguard a member’s personal assets from any debt or obligation that results solely from the LLC’s business. This includes any potential civil judgment liability that may arise during the normal course of business. The limitation on personal liability extends to obligations that arise from the LLC’s failure to observe particular formalities that relate to the exercise of management or power. However, members who act beyond the scope of the LLC, such as personally guaranteeing the debt of the LLC, are responsible for any debt or obligation that arises.

Contribution Liability

Most jurisdictions do not require a member to contribute property or money as a condition to becoming a member. However, if the operating agreement or preexisting members require future contributions to join the LLC, you are legally responsible for making those contributions. The LLC has all rights the state affords to other creditors. Additionally, if the LLC obtains financing and the lender relies on future member contributions in making a determination of creditworthiness, you may be personally liable to the creditor for any amount the LLC defaults on the loan as a result of your failure to make the contribution.

Improper Distribution Liability

State laws do not dictate allowable minimum or maximum distributions; however, they do preclude LLCs from making distributions that hinder its ability to pay debts as they come due in the ordinary course of business or cause total liabilities to exceed assets. In the event of an improper distribution, the manager or member responsible for authorizing the distribution is personally liable to the LLC for improper amounts. However, if the receiving member accepts the distribution with full knowledge that all or part of the distribution is excessive, that member is jointly liable with the paying member or manager.

Fiduciary Duties

Both member and non-member managers are personally liable for breaches of fiduciary duties for the amount of damage to the LLC the breach causes. Managers and members owe a duty of due care to the business that requires they not act in a grossly negligent manner that can potentially injure the LLC. Gross negligence requires a flagrant, intentional or reckless disregard for the law and reasonable business practices. A duty of loyalty requires the members and managers to solely conduct business activities in a way that puts the interest of the LLC before any other interest. Common occurrences of loyalty breaches include managers using LLC business contacts or relationships for personal gain, or directly competing with the LLC through a separate venture.