Tag Archives: Pennsylvania

Limited Liability Company & Personal Debt in Pennsylvania

The Limited Liability Company (LLC) is a creation of state law. Depending on the state, the applicable law may be more business friendly, as it is in Delaware and Nevada, for example. However, Pennsylvania is not in this category, and its laws – like those of states with similar views of business – tend to be less specific in certain areas. This ambiguity means that many of the laws applicable to LLCs can be interpreted differently by different courts. The result is that, at the moment, how certain situations will be handled is somewhat of a guessing game. When looking at financial difficulties of a member of the company, the impact on the LLC itself can be difficult to predict right now.

Single Member and Multiple Member LLCs

As will be seen, Pennsylvania provides more direction and clarity for a Multiple Member Limited Liability Company (MMLLC) than it does for the Single Member Limited Liability Company (SMLLC). Both will be reviewed in the context of the law that was enacted in 2016 to provide some idea of where a member in the LLC stands when this individual or another member suffers from a financial downturn.

Look to State Laws Regarding LLCs Currently

One must bear in mind that, while federal law can preempt state law, this does not as yet apply to a member of an LLC. Federal bankruptcy law does not have any provisions that deal with LLCs specifically so this has left bankruptcy courts faced with issues regarding these entities to handle these matters on an ad hoc basis.

The LLC is becoming an increasingly popular type of business entity because of its hybrid nature. It is a pass-through entity in terms of income in the same way that a partnership is. Meanwhile, like the corporation, it generally is viewed as a separate entity, which serves to protect from liability for the business’s debts. Due to the increasing popularity, this area of law is likely to become more uniform in the future, as federal law adjusts to the changing landscape. At the moment, though, state law controls for the most part so one must consider where to establish the business – and also needs to realize that, if the LLC operates in multiple states, no state is bound to apply the law of a different state to a legal dispute that arises in its jurisdiction.

What is a Member?

Before looking at SMLLCs and MMLLCs, one should understand some definitions that are important for a Limited Liability Company. While an organizer often is employed to form the LLC and the operating agreement may specify that it will be run by a manager instead of its members (15 Pa.C.S. Section 8847), the member of the LLC is the most important component in the formation of the business. In the general definitions of Pennsylvania’s law, a “member” is defined; however, this definition is rather vague. Among the other definitions, one can gain a better understanding of what a member is. A person must provide a contribution that can consist of “property transferred to, services performed for or another benefit provided to the limited liability company;” an agreement to transfer property, perform services, or provide another benefit to the company; or a combination of these (Section 8842). In return, the individual gains a transferable interest to receive distributions from the Limited Liability Company (Section 8812).

The Importance of a “Transferable Interest”

The member is most easily viewed as an owner, but what does the member own? Section 8851 specifies that a transferable interest, which is what a member of an LLC actually owns, is personal property. This could be viewed as analogous to shares of stock in a corporation and, as will be seen, can play a large part when a member is forced to consider personal bankruptcy.

Personal Debt and Charging Orders

A brief review of the Pennsylvania Uniform Limited Liability Company Act of 2016, particularly the parts that are relevant to members with personal debt, is the necessary starting point. As already noted, Pennsylvania defines a member’s transferable interest as personal property. This is linked in the statute to potential consequences of a member’s personal debt. In Section 8853, the risk of a “charging order” and its negative implications for an LLC member is set forth. Basically, judgment creditors with unsatisfied judgments against a member can apply to the court for a charging order, which amounts to a lien on the member’s transferable interest.

Furthermore, the court has the authority to make all necessary orders regarding the charging order so that the creditor will be paid in full. If the judgment creditor can make a showing to the court that the charging order will not result in the debt being satisfied within a “reasonable time,” Subsection (c) of Section 8853 allows the court to foreclose on the lien and to order that the transferable interest be sold.

MMLLC’s Advantage If a Member Has Financial Problems

This produces a different outcome for a MMLLC and a SMLLC. As long as the Limited Liability Company has more than one member, the purchaser does not become a member. The former member would be forced to dissociate from the LLC, however; Section 8863 explains the implications. When an SMLLC is involved, the same judgment debt can be fatal to the member’s business because, if the sole member of the LLC is dissociated, ownership will change if the Limited Liability Company is to continue. A member of an SMLLC cannot afford to be in a situation that could result in foreclosure if the individual wants to continue in business.

“Dissociation” as Dictated by Pennsylvania Law

In Section 8861 (“Events causing dissociation”), Pennsylvania lists various situations in which a member of a member-managed LLC will be required to withdraw from the company. Subsection (8)(i) states that a debtor in bankruptcy must dissociate from the Limited Liability Company. How this would work with a MMLLC is fairly straightforward. However, this is a provision in which there is a need to interpret how it would be implemented when there is a single member. If applied as written, whenever the sole member of an SMLLC would seek protection under the bankruptcy laws, this person automatically must dissociate from the LLC. This leads to a scenario in which no one would be in position to manage business as soon as a bankruptcy is filed.

A more reasoned approach is necessary because the SMLLC can be a significant asset in the bankruptcy estate so leaving it rudderless is of no benefit to anyone involved in the bankruptcy. As previously noted, a member of an LLC owns a transferable interest, which is not the business itself; instead, this is considered personal property that could be viewed as similar to corporate stock. The transferable interest becomes part of the bankruptcy estate, to the extent that it cannot be exempted. If a Chapter 7 trustee holds the entire transferable interest of the Limited Liability Company, then the trustee could step into the shoes of the debtor, with the same management rights in addition to the ability to sell the LLC’s property to acquire funds to pay the debtor’s personal debts.

Should the SMLLC Consider Adding Another Member?

To protect the SMLLC from this fate, the member can look at potential actions that could be effective. However, none of them come with any guarantees of success, and they certainly have potential downsides. For example, when the individual has a significant personal debt load and realizes that action must be taken on the personal and business fronts, the person may think about bringing in a second member, who would have to have sufficient funds to pay fair market value for interest being transferred – it cannot be a sham transaction. Of course, this is not without risk. After all, a person establishes an SMLLC with a vision in mind that could be undermined when an additional member is recruited to participate in the Limited Liability Company.

Bankruptcy Could Equal Liquidation for SMLLCs

Bankruptcy itself is an option with obvious risks as well as possible opportunities for an attempt to save the business. When the member files for bankruptcy, the individual’s interest in the LLC will be part of the bankruptcy estate. Liquidation of its assets is a distinct possibility. On the other hand, this is not a foregone conclusion. Since the Limited Liability Company actually has not filed for bankruptcy, its equity position is a major factor in the trustee’s decision regarding what should happen to the business.

An Option to Consider when Liabilities Exceed Assets

The debtor could decide to explore ways to achieve a result that salvages the business entity. The first step is preparing balance sheet with a good methodology underlying its numbers. If the document reveals that liabilities exceed assets, then the trustee would not be fulfilling a trustee’s duty of paying the creditors as much as is feasible to limit what they would lose based on the impact of the bankruptcy. There is no positive value in liquidating the LLC so the bankruptcy trustee lacks an incentive to take pursue this approach. This leaves open the possibility that the debtor may be able to arrange to continue running the business depending on the circumstances that exist with the company and the ability to make a good-faith argument in its favor.

An Option to Consider when Assets Exceed Liabilities

Even if the balance sheet that the debtor presents to the trustee reveals that equity exceeds liabilities, the debtor still has nothing to lose by approaching the trustee before the trustee starts to liquidate the Limited Liability Company. Again, the member must have well-prepared balance sheet that the bankruptcy trustee will believe is sufficiently accurate when making the decision about the business’s fate. The debtor, if possible, could offer to pay the LLC’s liquidation value to the trustee – this is roughly is the dollar amount by which the assets exceed the liabilities.

Of course, the trustee does not have to accept, but, again, the trustee has a duty the debtor’s creditors to attempt to recoup as much money as possible to pay them for the debts that they are owed. The debtor would take the position that this duty is best met by agreeing to the amount proffered by the debtor. If the trustee agrees, then the debtor can be well positioned to salvage the Limited Liability Company and also be in a good position for a “fresh start” after a discharge is granted in a personal bankruptcy filed under Chapter 7.

LLCs Can Survive Personal Debt, But There’s No Guarantee

In the end, there are no guarantees regarding what will become of a Single Member Limited Liability Company in Pennsylvania when its sole member faces dire financial straits on a personal level. The future is easier to predict if the LLC has multiple members. However, in either situation, there are times when a person has run out of options other than bankruptcy, and this will affect the Limited Liability Company to some extent. Especially with an SMLLC, one must look at what potentially viable strategies exist and – if feasible – pursue an option that can allow both the debtor and the business opportunities to survive a bankruptcy positioned to make fresh starts and avoid facing a similar situation in the future.

Length of Separation in Divorce & Its Impact

In 1980, Pennsylvania’s Divorce Code underwent a monumental change. Previously, one spouse had to prove that the other spouse was at fault for the marriage’s breakdown due to such reasons as adultery or indignities (a course of conduct making a spouse’s condition intolerable and life burdensome). She or he also needed to be the “injured and innocent” spouse, meaning that the other spouse was the primary cause of marital discord. 1980 brought “no-fault” divorce, which could be based on the parties’ consent that the marriage was irretrievably broken or based on the length of separation due to the marriage’s irretrievable breakdown. Because the length of separation seems likely to change in the near future, this is the focus here.

In all no-fault cases, one party claims the marriage is irretrievably broken – marital difficulties have caused an estrangement leaving no reasonable likelihood of the parties getting back together. When one spouse won’t consent to a divorce, the no-fault ground focuses on living “separate and apart” for a certain length of time. A separation is a fact-based determination. There is a presumption that the parties separated on the date the divorce complaint was served, but a spouse can choose a different date if the facts support it. Separation doesn’t require living in different residences – living separate lives is what matters. The end of sexual relations and financial independence are factors that help to prove separation. Communicating the intent to separate also is an important fact.

A not-too-uncommon question is how sex between separated spouses affects a period of separation. Involvement one time shouldn’t end the original separation. However, occasional intercourse could be an important fact causing a judge to decide the separation has ceased. An attempt to reconcile for a month or two could end a separation, too. If the spouses break up yet again, the separation starts all over again.

The ability to obtain a divorce due to the length of separation has important implications. Before no-fault divorce in Pennsylvania, only the “injured and innocent spouse” could obtain a divorce. No-fault grounds mean that even a spouse whose behavior causes the marriage to fall apart can obtain the divorce. Additionally, if a no-fault ground exists for granting the divorce, then a fault-based divorce cannot be obtained. The length of separation required can come into play here. If one spouse won’t consent and the parties haven’t been separated long enough for a non-consensual no-fault divorce, then the spouse who files might seek a divorce based on fault under these circumstances. However, when the required separation period becomes shorter, fewer spouses will have to choose to pursue a fault ground here – if the length of separation is reduced to one year in Pennsylvania, the difficulty of pursuing a divorce on a fault ground would make it less attractive and necessary as the path to obtaining a divorce.

A divorce based on the length of separation affects property and related issues, too. Although the following does not directly deal with the issue of length, spouses who begin living separate and apart have a date of separation. This matters because property acquired after this date is presumed to be non-marital and does not automatically become subject to equitable distribution. (An important point about presumptions in law is that they are not rules without exceptions; instead, when someone gets the benefit of a presumption, the other party can rebut it with evidence overcoming the presumption.) A longer period of separation generally will mean the parties will claim more property as being acquired after the separation and, therefore, not subject to equitable distribution.

A divorce case often involves issues beyond the divorce itself, including property distribution, custody, and support. At one time, divorces in Allegheny County generally would be subject to automatic bifurcation, which meant that the divorce was granted before the remaining claims were resolved. In 2005, the Divorce Code was revamped so that bifurcation became the exception. For the exception to apply in a divorce based on the length of separation, a party has to establish specific grounds for the divorce as well as compelling circumstances favoring bifurcation for the marriage to end before economic claims are decided. The court wants to see that the dependent spouse, in particular, receives economic protection during a bifurcated divorce.

While different counties may be more likely to allow bifurcation, it should be remembered that the statute doesn’t favor bifurcation. Therefore, a party in a divorce based on length of separation could have to wait for the required separation period to pass and then wait even longer for other claims to be decided before receiving a divorce decree. If the period of living separate and apart becomes one year, this should result in a shorter period overall for a decree in divorce even without bifurcation.

A final note about changes in the length of separation: the last change occurred in 1988 and affected any separation that began after February 12th of that year. If you separated on February 13th or later, you had to wait two years while a separation that began on February 12th still was subject to a three-year separation. Whether this approach would be used again isn’t known yet. However, it is something to think about if you’re considering a possible separation and divorce right now.

The Status of Common-Law Marriage in Pennsylvania

Until January 2, 2005, a woman and a man in Pennsylvania could consider marrying each other without any type of ceremony or written documentation. There was not even any requirement that they lived together for any amount of time, despite a common belief to the contrary. Basically, if there was no reason why they could not marry, such as being too young or being currently married to someone else, they basically needed to exchange words in the present tense – without even needing witnesses – showing that they intended to establish the relationship of wife and husband, and a common-law marriage was created.

A marriage created in this way could create difficulties when one had to prove the date of the marriage or, even, its very existence. As a result, courts made an issue of the problems with marriages that could exist without any documentation. A 1998 decision from the Pennsylvania Supreme Court made clear that the common-law marriage certainly was disfavored but that the legislature would have to act to abolish the practice. Then, in 2003, due to the lack of legislative action, the Commonwealth Court took it upon itself to act in place of the legislature and decided that common-law marriage no longer existed in the Commonwealth of Pennsylvania. Unfortunately, all that this really did was to create more confusion.

With a Pennsylvania court saying one thing and the legislature saying nothing, the government needed to clarify what the law really was. Finally, the legislature passed a statute preventing anyone from attempting to create a common-law marriage beginning with the day after New Year’s Day in 2005. This did not invalidate such unions that took place through January 1, 2005, thereby ensuring that a possible common-law marriage that either the man or the woman involved asserted had occurred prior to the cutoff date still could prove troublesome. However, even with Pennsylvania’s abolition of the right to enter into a common-law marriage, problems caused by this concept remain.

Beyond the difficulties presented by a possible common-law marriage created in Pennsylvania prior to the beginning of 2005, there are problems because some states continue to permit a woman and a man to enter into this type of marriage at this point. They include Alabama, Colorado, Iowa, Kansas, Montana, New Hampshire (for inheritance purposes only), Rhode Island, South Carolina, Texas, Utah (which does add the requirement of an administrative order regarding the marriage), and Washington, D.C.  A common-law marriage from any of these states eventually could have an impact in Pennsylvania. While the reason often is thought to be the Full Faith and Credit Clause of the federal Constitution, this is not involved. Instead the concept of comity is the cause.

Through comity, states generally recognize and respect the laws of other states as long as the law is not deemed offensive to public policy in a particular state. Since Pennsylvania has long favored the institution of marriage (between men and women), it continues to recognize common-law marriage, despite the problems with proof that led to practice being abolished here, as long as the marriage occurred in one of the states where it was valid. Although it could not be created here, public policy in Pennsylvania favors marriage so it remains valid as long as it was valid from its beginning.

Therefore, a woman and a man could enter into a common-law marriage in Washington, D.C. in 2011 and then move to Pennsylvania. If the marriage was valid in the District of Columbia, the comity doctrine continues its validity here.

This means that these spouses will have the same rights and obligations that other married couples have in Pennsylvania. They will remain married until death – or until a divorce. While entering a common-law marriage has none of the formalities of a ceremonial marriage, its ending can occur only in the same way that any other marriage can end. Because a divorce is required while both spouses are alive, there can be equitable distribution of marital property. Meanwhile, the death of one of the spouses leaves the other with the same inheritance rights as any other surviving spouse in Pennsylvania has.

In addition, because the marriage is valid, there are rights to payments from the Social Security Administration that can vest when a spouse retires if they have been married for at least ten years. A common-law marriage also affects a bankruptcy. If one spouse basically has all of the debt while property, such as a residence, is owned as tenants by the entireties in Pennsylvania, then the bankruptcy law can be used to protect the house, with only the spouse with the debts filing for bankruptcy to get a fresh start by having these debts discharged. The marriage may have begun elsewhere, but – by the time that the couple has arrived in Pennsylvania – the fact that it was a common-law marriage in the beginning is of no consequence, regardless of Pennsylvania’s abolishing the right to enter into such marriages years ago.

In the next post, we will see another married couple that relocates from Washington, D.C. to Pennsylvania but finds the consequences much different. Instead of a common-law marriage, we’ll look at a couple that has gone through a ceremonial marriage after obtaining a marriage license, making the marriage much easier to prove. This won’t matter once they move to Pennsylvania, where they will be treated as if they virtually are strangers to one another. Their “problem” is that they happen to share not only their lives but also the same gender. The evolving area of law of same-sex marriage and its current (and possible future) implications in our changing society will be examined.