LLC Protection for Members' Personal Debt in Arkansas

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Like most states, the general rule in Arkansas is that the money or property of a limited liability company (“LLC”) cannot be taken by creditors to pay off the personal debts or liabilities of the LLC’s owners. However, even though creditors can’t collect directly from an LLC for an owner’s personal debts, there are other ways creditors might try to go after the LLC for the owner’s personal debt. These include:

1) obtaining a charging order requiring that the LLC pay the creditor all the money distributed to the debtor-owner

2) foreclosing on the debtor-owner’s LLC ownership interest, or

3) getting a court to order the LLC to be dissolved and all its assets sold.

The laws on what creditors are allowed to do vary state by state. This article will look at what type of actions creditors of LLC owners are allowed to take against an LLC in Arkansas. To see the rules about personal creditor’s rights against LLC owners in other states, see Single-Member LLCs and Asset Protection: A 50-State Guide.

Charging Order

A charging order is an order issued by a court directing an LLC’s manager to pay to the debtor-owner’s personal creditor any distributions of income or profits that would otherwise be distributed to the debtor-member. If the LLC doesn't make any distributions, the creditor gets nothing. In most states, creditors with charging orders only obtain the owner-debtor’s financial rights and cannot participate in the management of the LLC. Thus, the creditor cannot order the LLC to make a distribution subject to its charging order. Very frequently, creditors who obtain charging orders end up with nothing. 

In many states, a charging order is the exclusive remedy for personal creditors of an LLC owner. The rationale for making a charging order the exclusive remedy is to protect the other LLC owners from having an outside creditor step into the shoes of the debtor member and share in the management and control of the LLC.

Arkansas law states that personal creditors of an LLC owner can obtain a charging order against the LLC. However, unlike many other states, Arkansas LLC law does not state that a charging order is the exclusive remedy. Thus, Arkansas provides less protection to LLC owners because in addition to obtaining a charging order, creditors in Arkansas may be able to foreclose on the debtor-member’s interest. If this occurs, the creditor becomes the permanent owner of all the debtor-member’s rights, including the right to receive money from the LLC. In addition, a creditor might be able get a court to order the LLC dissolved and its assets sold to pay the creditor’s judgment.

This makes Arkansas a less attractive state for liability protection for LLC owners against other LLC owner's personal debt. By not expressly making a charging order the exclusive remedy, LLC owners in Arkansas are at risk that personal creditors of LLC members will pursue other remedies, including foreclosure and ordering the dissolution of the LLC.

Single-Member LLCs

The reason some states limit the remedies available against an LLC owner to a charging order is to protect members (owners) of an LLC from another member's personal creditors. This rationale disappears when the LLC has only one member (owner). As a result, the LLC laws and court decisions in some states make a distinction between multi-member and single-member LLCs ("SMLLCs") and allow creditors of SMLLC owners to pursue additional remedies against SMLLC owner/debtors even if a charging order is the only remedy allowed for multi-member LLCs.

Personal creditors of LCC owner/debtors in Arkansas are not limited to a charging order so there would be no reason to create a special exception allowing additional remedies for SMLLC personal creditors. As with multi-member LLCs, personal creditors of a SMLLC can obtain a charging order or could pursue other remedies against SMLLC owner/debtors including foreclosure or seeking the dissolution of the LLC. 

Should You Consider Forming Your LLC in Another State?

You do not have to form your LLC in Arkansas even if it is where you live or do business. You can form an LLC in any state--for example, even though your business is in Arkansas, you could form an LLC in Wyoming to own and operate it because it has more favorable LLC laws.

However, there is no guarantee that the courts of Arkansas or other states where your LLC does business will apply the laws of the state where you formed your LLC instead of the less favorable Arkansas LLC law or another state's LLC law. This is a complex legal issue with no definitive answer. Consult an experienced business lawyer if you are considering forming your LLC in a state with more favorable laws.

by: , J.D.

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