By Chris Watkins

Limited Liability Companies have become extremely popular entity forms since their inception.  The primary reasons for this are their flexible structure and their liability/creditor protection aspects.  When most people think of the liability protection that LLCs provide, they are thinking about the protection enjoyed by the owners (or members) of the LLC from the LLC’s liabilities.  For example, if an LLC is sued for breach of contract or for damages caused by an employee of the LLC, the LLC’s owners are normally safe from being held personally liable.  A common exception to this is if an owner has personally guaranteed a debt (which commonly occurs when a business takes out a loan or enters into a lease). However, another equally beneficial characteristic of an LLC is the protection afforded to the LLC (and its assets) from the creditors of the owners, through what is known as a “Charging Order.”

The Charging Order

If a business owner has creditors or gets personally sued for some reason or another, and a judgment is entered against him, the judgment creditor often will start looking for assets to satisfy the judgment, and may seek to execute against the owner’s interest in the business.  From the point of view of the business owner and the business itself, the fear is that the creditor will, in the collection process, acquire the debtor/owner’s interest in the business and, in effect, step into his shoes.  Depending on the extent of the debtor/owner’s ownership interest and management rights in the business, the creditor will likely seek to dissolve the business and liquidate its assets.  In the case of a corporation, this is a real threat.  However, in the case of an LLC, the creditor’s only real remedy is to obtain a “charging order” against the debtor/owner’s interest in the LLC.  This is, in effect, a lien on the debtor/owner’s right to receive distributions.  However, a charging order does not give the creditor any voting or management rights in the LLC, so he cannot force a liquidation or even control when and to what extent distributions are made.

In conclusion, the limited liability company is an entity form that should always be considered by business owners who are concerned about protection not only from the creditors of the business, but also protection of the business from the creditors of the owners.