How to Transfer Ownership in an LLC

By Tom Speranza, J.D.

How to Transfer Ownership in an LLC

By Tom Speranza, J.D.

A limited liability company (LLC) is a type of business entity recognized under the laws of all 50 states. The owners of an LLC are known as members and their equity interests in the LLC are called membership interests.

Businesspeople gathering around conference table

Where are the rules for transferring membership interests?

Transferring membership interest in an LLC is as simple as following the rules of your LLC. You can find the rules for transferring a membership interest in two places:

  • The LLC law of the company's formation state
  • The LLC's operating agreement

All LLC members sign the operating agreement, which spells out the relationships between the members and the LLC. As a general rule in most states, the terms of the operating agreement supersede the state LLC law.

When can members transfer ownership?

Under most state LLC laws, a member cannot fully transfer a membership interest unless:

  1. All other members consent to the transfer.
  2. The transfer is reflected in the LLC's records.
  3. The assignee signs the operating agreement as a member.

If these three conditions aren't met:

  • The assignment of a membership interest transfers only the assignor's economic interest in the LLC—meaning the right to an allocation of profits and losses.
  • The assignee acquires no right to manage the LLC or exercise other powers of a member, such as the right to vote at meetings.

What are the common types of transfer restrictions?

Most operating agreements replace the basic state law rules with more extensive limits on when and how a member is allowed to transfer its membership interest. In closely-held small companies, the operating agreement usually imposes many conditions on membership interest transfers because the owners want some control over who may be their business partners.

Transfers upon Death or Disability

Operating agreements often provide for an ownership transfer if a member dies or becomes disabled because most LLCs don't want the heirs of a member, typically family members, to inherit a right to manage the company. Here is a common process for transfers upon death or disability included in an operating agreement:

  1. The other members, usually in proportion to their ownership percentage, have the option of purchasing the membership interest of the deceased/disabled member. To determine a value for the deceased/disabled member's membership interest (the purchase price), the LLC uses a formula provided in the operating agreement or hires an appraiser.
  2. If the other members choose not to buy it, the company may have the option of redeeming the membership interest of the deceased/disabled member.
  3. The operating agreement mandates certain payment terms for the purchase price, including the number of monthly installments and the interest rate, if any.

LLCs often purchase life and disability insurance on the members ahead of time to fund these buyouts.

Voluntary Transfers to Third Parties

A member selling a membership interest to a third party is another situation most LLCs want to restrict for obvious reasons—suddenly having a stranger involved in the company's management can be disruptive. Common restrictions on voluntary ownership transfers include:

  • Complete Prohibition: Some operating agreements solve this problem by simply prohibiting all transfers to third parties.
  • Right of First Refusal: The member who wants to sell a membership interest cannot complete the sale unless the company or other members are given an opportunity to match the offer from the proposed buyer.
  • Right of First Offer: The member who wants to sell is required to give the company and the other members an opportunity to propose a price and payment terms to buy the membership interest. The selling member then can't sell to a third party unless their price and payment terms are better.
  • Tag-Along Rights: The member who sells his membership interest must permit all other members to participate in the sale on a pro rata basis. For example, if a member wants to sell a 30 percent interest in the LLC, the transaction is restructured so that the buyer is required to purchase 30 percent of each member's membership interest.

Transfers for Financial/Estate Planning

If an LLC membership interest is valuable, a member may want to transfer it to a family member, another entity, or a trust for financial or estate planning purposes. Many operating agreements allow such transfers so long as the original member retains all management, consent, and voting rights.

A well-drafted operating agreement is crucial.

An operating agreement should provide an LLC's members with the rules for transferring ownership interests. An experienced corporate lawyer can help as your company makes changes in ownership or crafts an agreement that aligns with the goals of your owners and investors.

This portion of the site is for informational purposes only. The content is not legal advice. The statements and opinions are the expression of author, not LegalZoom, and have not been evaluated by LegalZoom for accuracy, completeness, or changes in the law.