transfer of llc interest to spouse

Consultant’s Corner: Transferring Business Ownership to a Spouse

Q. I am currently the sole member of an LLC. I would like to transfer sole ownership of the LLC to my spouse. How would I do this?

The transfer of the LLC ownership to your spouse will have to be properly documented for legal and tax purposes. In addition to the proper legal documents between the parties, there are governance, taxation, regulatory, and other potential important considerations. Also, due to the general complexity of business and tax regulations in these transactions, you will likely need to consult your lawyer and local business tax advisor to consider all of the issues, determine the most effective structure for the transaction, and identify all of the necessary paperwork: LLC governance, state filings, tax filings, etc. For consideration with your local advisors, we have provided the following information, resources, and considerations:

1. Business valuation

We do not know the value of your business. However, if you sell the business, you would have potential personal income tax considerations: ordinary income and capital gains tax. However, when gifting an LLC ownership interest to family members, an accurate valuation of the business is generally important in order to establish a value for gift tax and other financial and income tax purposes. Also, business owners often need to engage or consult professional business brokers or local financial professionals to provide an independent appraisal or otherwise help them value their businesses. Certain industries have rule of thumb valuation factors, such as a multiple of revenues, cash flows (EBITDA), or net income. However, industry guidelines vary based on profit and cash flow potential and cannot always be applied to an individual situation because of asset values, rent and labor costs, financing, and other elements unique to that operation. Establishing the value of a business generally involves determining a) the value of the equipment, supplies inventory and other tangible assets and b) the value of the business customer list/contracts, sales/profit potential, and intangible assets like goodwill, etc. Also, the quality of your customer list and relationships may be a valuation factor. Historical operating results are one part of the valuation; however, businesses are generally valued more for the future potential than the past operations.

As to valuing a particular business, the best information generally involves determining the present value of future cash flows. The key financial statement is the statement of cash flows that will yield the “cash available to service debt.” The future cash flows are then discounted to present value using a discount rate that reflects the amount of risk inherent in the forecast assumptions. The key question is “How much would someone pay for the opportunity to earn $xxx of annual income.” The answer generally depends on how secure the income is and how easy it would be for the buyer to start from scratch without buying the business. If the business has growth potential, it may be worth 10 to 20 times earnings compared to 3 to 7 times earnings for a company with limited, or no, growth potential. Service businesses may sell from 40% to 150% of revenues, for example. Also, a consideration with a personal service business owned by one or only a few individuals is the value of the customer relationships and/or contracts.

Your local CPA can assist you with a business appraisal and provide you with a fee estimate. For discussion with your CPA, you can review discussions of the common valuation methods at the following websites:

http://www.bizfilings.com/toolkit/sbg/run-a-business/exiting/use-best-business-valuation-formula.aspx

http://www.business-valuation.net/methods/

Also, for comparison purposes, you can review other businesses for sale at Internet websites like the following:

http://www.bizbuysell.com/

http://www.mergerplace.com/business-for-sale/search

2. LLC ownership transfer agreements

Business interests (entire or partial) are customarily transferred to family members, including spouses, through a sale, gift, or inheritance, all three of which can have legal and tax implications. Generally speaking, transferring membership interests, or membership certificates in an LLC from one family member to another involves either a sale or a gift of the membership certificates from one party to the other. In a sale, the selling family member would sell his or her membership certificates to the buying family member in an arms-length transaction based on the fair market value of the membership certificates. In a gift scenario, the gifting family member (donor) would transfer his or her membership interest to the recipient (donee) by formally transferring title to the membership certificates to the recipient. Both membership certificate sales and gifts can have income or gift and estate tax implications depending all the facts and circumstances.

As to documenting the addition of an LLC member, the required documents can vary depending on the structure of the transaction and regulatory requirements. For consideration with your lawyer, you review the sample LLC membership interest sale/purchase agreements and LLC membership interest subscription agreements and other paperwork that may be applicable to your situation:

LLC interest sale:

http://www.northwestregisteredagent.com/sell-llc-membership-bill-of-sale.html

http://www.leaplaw.com/pubsearch/preview/1193_LLCSubscrip.pdf

https://www.docracy.com/0v4et8ci8ka/membership-interest-purchase-agreement

LLC Operating Agreements:

http://www.northwestregisteredagent.com/single-member-llc-operating-agreement.html

http://www.nolo.com/legal-encyclopedia/llc-operating-agreement-30232.html

http://www.ilrg.com/forms/st_businessventures.html

http://www.uslegalforms.com/corporatecenter/llc-operating-agreements.htm

Amendments:

http://www.northwestregisteredagent.com/llc-operating-agreement-amendment.html

https://www.leaplaw.com/pubSearch/preview/1080D_OperatingAmendment.pdf

LLC Membership Certificates:

http://www.northwestregisteredagent.com/LLC-membership-certificate.html

http://www.mycorporation.com/corporation-llc-documents/llc-membership-certificates.jsp

3. Minute book

It is generally advisable for LLCs to have minutes to document the change of ownership, Board of Director elections, officer elections, bank account authorization, and other decisions regarding major contracts and important business issues. The GoSmallBiz membership includes the GoSmallBiz Corporate Minute Writer tool which simplifies the task of keeping your business Minute Book. GSB members can find the Corporate Minute Writer tool through their GSB Account under Applications then Corporate Minute Writer.

4. Taxation

Your personal tax implications will depend on the structure of the transfer: sale or gift. Transfers or conveyances of LLC ownership between spouses will have gift and estate tax implications; however, depending on the fair market value of the conveyed interest, your lifetime gifts, and other factors, the conveyance may not create gift or estate tax liabilities. For example, a gift is not includible in the gross income of the recipient, or donee, of the gift; however, gifts exceeding the annual exclusion for gifts ($15,000 in 2020) may be subject to gift tax, which is the responsibility of the maker, or donor, of the gift. Whether a gift is subject to gift tax will depend on the donor’s total lifetime gifts. Under current tax law, gifts made that exceed the annual exclusion for gifts are only subject to gift tax when they cumulatively exceed the donor’s lifetime gift tax exclusion amount which is $11,580,000 in 2020. Even if a gift is not subject to gift tax, if the gift exceeds the annual exclusion for gifts, the donor would still need to file a gift tax return (Form 709) for the year of the gift. You can review IRS information on estate and gift taxation at the following websites:

http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Whats-New-Estate-and-Gift-Tax

http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Estate-and-Gift-Taxes

Investment gain and loss taxation:

https://www.irs.gov/publications/p550/

https://www.irs.gov/taxtopics/tc409.html

5. State filings

You may have state filings related to changes in the agent of service or other aspects of your LLC. Documents reflecting changes in existing businesses can be filed online at the Secretary of State’s website.

6. Professional assistance

Due to the various governance, legal, financial, and tax implications when transferring LLC ownership, business owners generally use local professionals (CPA, lawyer, and business insurance agent) for help in reviewing their ownership transfer plans and goals and evaluating transaction structure, regulatory requirements, taxation issues, and any risk management issues.

Bill Wortman

Protecting Your LLC: How to Transfer the Rights to a Family Member

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Transfer your interest in an llc to a family member, transcript:.

Jonathan : Hi, my name is Jonathan Barlow. I'm a partner attorney at Clear Counsel Law Group. We handle estate planning and we handle business planning. The question we have today that I'm going to answer blends these two areas in one question. The question is, how can I transfer an ownership interest in my LLC to a family member? There's basically two times that you might think about a transform happening. One, while you're alive, and two, after you pass away.

First, if you think about wanting to transfer an ownership interest while you're alive, I highly recommend that you do this as formally as possible to make it very clear that you did both intend to transfer the interest and that you actually did transfer the interest. That can be done formally through a simple document. We call it an assignment of ownership interest. In that document, you simply recite that you are an owner of the business in such and such a percentage, and that you hereby or give such and such as percentage or amount to the person you want to give it to. Sign it, date it, have it notarized. That actually acts as a formal transfer of ownership interest. It formalizes it and makes it very clear what your intent was.

After you pass away, if you have an intent to transfer the interest after you have died, you want to make sure you also do that very formally. You could that either in a will or in a trust . If you do it through your will you're probably going to have to ... or your family member will have to go through probate in order to get their interest in your business, which could delay the operation of the business while that process is happening. The best way to plan for an after-you-die transfer is through a trust.

In your trust, just like any other asset, you can specifically list 25% of my business or half of the business or all of the business to be transferred to my son John when I pass away. That can happen pretty easily and quickly after you die through the use of a trust. Those are the two best ways to do that and transfer those ownership interests. Brian has a question about this.

Brian : What happens to your LLC if it goes into probate?

Jonathan : That's a good question. If the LLC, which becomes an asset of your estate when you die and in order to get it transferred out of your estate to whomever's going to inherit it, it goes through probate, what happens to the business? That's an interesting question. If there's not already other business managers operating the business, if the person who passed away is the only manager, the personal representative or executor of the estate can be appointed with authority to continue the business of the LLC. The court would grant that person, the executor, authority to step in the shoes of the manager of the business and continue with the operations of the business while the probate is occurring until it is transferred out of the probate estate to the heirs.

That may or may not be a good idea. That's also a reason why you want to think about using a trust to avoid that potential process. Because that executor may not have the business acumen that you would want them to have in order to operate your business. Thus again, using it through a trust allows you to be much more formal and specific about how you want that ownership interest to transfer, and the management interest as well. If you have questions about your LLC, about your ownership interests, how to transfer those, I encourage you to give me a call or any of the attorneys here at Clear Counsel Law Group, and we'll do our best to answer your questions.

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Transferring Company Ownership Interests in Divorce Settlements - A Transaction in Which Both Spouses Need to Exercise Significant Caution

It is common for divorce settlements to include a transfer between spouses of an ownership interest in a private company, but the frequency of this transaction does not mean that it should be taken lightly. In fact, transferring a private company ownership stake in a divorce settlement often includes heightened business risks beyond the sale of a business interest between two unaffiliated parties.  This post therefore focuses on critical business risks present for both the spouse acquiring the ownership interest and the spouse who is transferring the interest in the company.  These business risks should be discussed with the spouses’ family law or business counsel to ensure that they are addressed in the parties’ divorce settlement.

Business Risks to Spouse Who Acquires Company Interest in Divorce

The following are three of the most critical points the spouse acquiring the private company ownership interest will want to include in the divorce settlement and related contracts that confirm the transfer of this interest, and they are discussed below:

• Confirming Inspection Was Completed
• Including a Broad Anti-Fraud Provision
• Documenting Full, Complete Transfer of Interest
• All Inspections of Relevant Materials Completed

The acquiring spouse (“Transferee”) wants to avoid all future claims by the spouse who is transferring his/her ownership interest in the business (the “Transferor”) as part of the divorce settlement.  Therefore, the Transferee will want to secure representations from the Transferor in the settlement documents confirming that he/she had both access to and time to review all financial records and business documents related to the company at issue in the transaction before following through with the Transferor’s transfer of the ownership interest.  These representations should help to cut off future claims by the Transferor that he or she was deprived in any way of the information necessary to make a fully informed decision about the consideration that the Transferor received before transferring his/her interest in the company to the Transferee spouse.

Inclusion of Broad Anti-Fraud Provision

In Texas, spouses owe each other a fiduciary duty during their marriage when they engage in business dealings together.  That fiduciary duty is extinguished, however, once either spouse files a divorce proceeding, but the Transferee spouse should nevertheless insist on securing broad representations from the Transferor spouse that, in entering into the divorce settlement, he/she is not relying on any promises, representations or consideration by the Transferee spouse that are not fully set forth in the settlement agreement.

This type of term in the Settlement Agreement is commonly known as an “anti-fraud” provision, because its purpose is to cut off any later fraud claim by the Transferor spouse after transferring his/her interest in the company based on the notion that the Transferor was misled in some manner by the Transferee, which induced the Transferor to enter into the transaction.  Therefore, this anti-fraud provision confirms that the Transferor has agreed to receive only that specific consideration that is documented and expressly set forth in the terms of the divorce settlement agreement.

Documentation of Transfer of Full Ownership Interest

The final issue of concern to the Transferee spouse is to ensure that the entire interest of the Transferor spouse is obtained in the transaction.  The Transferee will want to confirm that all right, title and interest in the company held by the Transferor is transferred in the transaction and also confirm that the Transferor does not retain any interest whatsoever in the company, or any of its assets.  In many divorce settlements the Transferee spouse does not have funds at the time of the divorce that are sufficient to pay for the full value of the 50% interest held by the Transferor spouse in the company, and the settlement payment must therefore be made in a structured buyout.  Even in the case of a structured buyout, however, the Transferee will want to insist that the full equity in the company held by the Transferor transfers at the time of the divorce.  This transfer of the equity is necessary at the time of the divorce to ensure that the Transferee does not become subject to any future claims by the Transferor related to the operation or performance of the business after the divorce has become final.

If the Transferee lacks the funds to pay for the full value of the Transferor’s interest at the time of the divorce, however, the Transferor may insist on securing some form of collateral during the buyout period to ensure that full payment is made.  The collateral could include a secured interest in the stock or membership interest that is being transferred.  If the stock or membership interest is used as collateral, a default in payment by the Transferee would permit the Transferor to initiate a judicial foreclosure to recover the stock or membership interest that was transferred to the Transferee.

Business Risks to Spouse Who Transfers Company Interest in Divorce

The spouse who transfers his or her ownership interest in the company to the other spouse also has several key business points this Transferor will want to include in the divorce settlement, and three of these important business terms are listed and then discussed below:

• Securing Representation of No Imminent Sale of Company
• Including Broad Release Provision from the Company Itself
• Obtaining Indemnity From Company Against Future Claims
• Representation that No Sale of Business is Imminent

The Transferor does not want to be paid for his/her interest in the business only to find out that if the Transferor had waited a matter of weeks or months, the company would have been sold for a much higher value than the seller/transferor received for his or her interest at the time it was purchased by the company.  The way to avoid this is to secure an agreement that if the business is sold within some set period of time after the divorce, perhaps one year, the Transferor will receive an additional payment equal to the additional amount that the Transferor would have received if he/she remained an owner at the time of the sale.  This contract term is called a look back provision and is common in purchase/sale agreements.

If the Transferee will not agree to include a look back provision in the divorce settlement, the Transferor may insist on securing a representation that no sale of the company is imminent or will take place within a specified period of time after the transfer is made.  This term gives the Transferor protection of a similar nature to the look back provision.

Transferor Spouse Should Receive a Release from the Business

Most divorce settlements include a mutual release of claims in which each spouse releases all claims against the other spouse before the date of the settlement.  When a business interest is involved, however, the Transferor spouse should also require the business to provide that spouse with a release of all claims by the business.   This will preclude the Transferee spouse from filing any claims by or on behalf of the business against the Transferor after the stock in the business has been transferred and the Transferee now has full control over the company.  In sum, the Transferor needs to secure a full and broad release from the company, as well as a similar broad release from the Transferee, as an essential part of the divorce settlement.

Transferor Spouse Should Also Receive Indemnity From the Business

For all of the same reasons that the Transferor should demand a release from the company, the Transferor should also insist on being indemnified by the company if the Transferor is named as a defendant in any later lawsuit filed after the divorce settlement is completed.  After the transfer takes place, the Transferee is now likely the full or certainly the majority owner of the business, and the owner should be required to provide the Transferor with an indemnity against all claims by third parties unless the claim itself is the direct result of some bad faith action or willful misconduct by the Transferor.   Including an indemnity provision in the divorce settlement provides the Transferor with a reasonable measure of protection in the event that the Transferor is named in any lawsuit related to the company at issue.

In our entrepreneurial society, spouses frequently have ownership stakes in businesses that they acquired during the marriage, and which will then need to be addressed when a divorce is filed.  While transfers of ownership interests are quite common in divorce proceedings, these transfers must be handled with a significant amount of care and precision.  If the divorce settlement fails to address the likely and probable scenarios involved in the transfer of a business interest from one spouse to another, the divorce decree will not signify then end of all disputes between the parties.  Instead, the parties may find themselves embroiled in another lawsuit over business issues that is at least as contentious as their divorce proceeding.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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