Key Takeaways

  • Charging order protection limits creditor access to an LLC member’s distributions without affecting control of the LLC.
  • States vary in how much protection is afforded—some make charging orders the exclusive remedy, while others allow foreclosure or dissolution.
  • Single-member LLCs (SMLLCs) may not have the same level of protection in some states as multi-member LLCs.
  • Bankruptcy can override charging order protections, especially for SMLLCs.
  • Forming an LLC in debtor-friendly states like Delaware, Nevada, or Wyoming can enhance asset protection.
  • A well-drafted operating agreement can further safeguard an LLC against disruptions from member debts or bankruptcy.

Charging order protection states keep an LLC, or limited liability company, safe from debts and creditors who may have private claims against an individual member of the LLC.

You may be aware that a limited liability company protects the personal assets of members against liability from business debts. The charging order protects the LLC itself, and other members, from liability against a member's private debts.

Charging order protection states also keep the LLC's management structure intact. This keeps a creditor with a claim against one of the members from taking that member's place in the LLC.

Why Are Charging Orders Necessary?

Anyone can get involved in a lawsuit or accumulate more personal debt than they can pay off. When this happens, creditors can collect their debt through putting liens on property or garnishing salaries.

A charging order puts a lien on a member's share of a limited liability company. This protects the LLC and the other members. They do not have to dissolve the business in order to pay off the private debts of a single member. They also do not have to accept a member's creditor as a business partner.

When charging order protections are in effect, the LLC member with private debts continues in his or her role within the business. The creditor cannot step in to manage the LLC in any way.

Why Do LLCs Need This Protection?

In many LLC examples, the LLC is a small business. The members of the LLC manage the business themselves. These members need to keep up a good working relationship. They depend on one another for business success.

Should someone like an outside creditor, or even an ex-spouse, step in to claim a place as a business partner, this could be destructive to the smooth operation of the business.

How to Get a Charging Order

If someone with debt has an LLC membership interest, creditors may count this as a personal asset and use it to help pay off the debt. To do this, a creditor must go to court to get a charging order. The creditor is not permitted to take distributions that belong to other members or any of the LLC's other assets.

Charging Orders and the Law

While the concept of the charging order is fairly old, it has not been used with LLCs for very long. Because of this, state laws about charging orders can vary widely. All states allow for charging orders, but some state laws show preference to creditors and others to debtors.

There are some states that will not give charging orders for LLCs that only have one member. This is because there are no other members in that LLC that need protection. In some states, a creditor is only allowed to take the distributions of a member who owes a debt. In other states, the creditor can foreclose the member's whole interest in the LLC.

How State Laws Differ on Charging Orders

State laws vary significantly in how they treat charging order protection:

  • Exclusive Remedy States: Many states, such as Delaware, Nevada, and Wyoming, treat the charging order as the sole remedy a creditor can use. This means creditors cannot seize ownership interests, force foreclosures, or dissolve the LLC.
  • Foreclosure-Allowed States: In some states, a creditor may foreclose on the debtor's interest if a charging order proves ineffective. This gives the creditor permanent rights to financial distributions but still not managerial rights.
  • Dissolution Permitted: A few states go further by allowing creditors to force dissolution of the LLC to recover debts—though this is rare and typically disfavored.

Understanding the laws of your specific state is crucial to determine how much charging order protection your LLC actually provides​.

Single-Member LLCs and Charging Order Vulnerabilities

Charging order protections were originally designed to protect the other members of an LLC. For this reason, single-member LLCs (SMLLCs) can be more vulnerable:

  • Reduced Protection: Some states allow creditors to bypass the charging order limitation for SMLLCs, reasoning there are no other members to protect.
  • State Differences:
    • Stronger Protection: Delaware, Nevada, and Wyoming explicitly offer charging order protection to both single- and multi-member LLCs.
    • Weaker Protection: Florida and New Hampshire explicitly allow broader remedies against SMLLCs, including foreclosure and control transfer.
    • Unclear States: Many states have no clear law or precedent, leaving SMLLC protections uncertain.

For owners of SMLLCs, forming in a debtor-friendly state or converting to a multi-member structure may enhance protection​​.

Getting the Best Protection

For a charging order to be effective, an LLC must have its own separate EIN, or Employer Identification Number. Members must not mingle their personal assets with the business assets of the company.

Judges or the IRS may put a lien on the personal bank accounts of members if the LLC does not have a unique EIN or mingles business and personal assets. When an LLC only has one member, it is particularly important for the LLC to keep personal and business assets distinct.

While some people think of asset protection planning as an unethical way of hiding assets from creditors, this is actually not the case at all. Asset protection is perfectly legal and makes smart business sense. For an LLC to keep its assets protected, it is important to set up distinctions early in the life of the company.

When asset protection is done properly, it legally protects property from creditors holding any type of debt, from debt awarded in civil judgments to unpaid invoices. When members move assets around immediately before legal actions begin, this looks suspicious and can cause problems.

Should You Form Your LLC in Another State?

Choosing where to form your LLC can impact how well charging order protections work:

  • Debtor-Friendly Jurisdictions: States like Nevada, Delaware, and Wyoming are popular for strong charging order statutes and broad protection.
  • Home State Challenges: Forming in one of these protective states may still require registering in your home state as a “foreign LLC,” potentially subjecting the business to less favorable local laws.
  • Cost vs. Protection: Forming outside your state increases fees and compliance responsibilities but may be worth it for significant liability shielding.

Before forming an LLC in another state, it's wise to consult with a business attorney to weigh the benefits and drawbacks based on your specific needs​​.

Bankruptcy and Charging Orders

Filing for bankruptcy can override LLC protections:

  • Bankruptcy Trustees: In Chapter 7 bankruptcy, courts have ruled that the trustee can become a substitute member in an SMLLC, gaining control over LLC assets and operations.
  • Unclear Precedents: There is little consistency across courts, making outcomes unpredictable. While some protect the LLC structure, others disregard it—especially when there is only one member.
  • Multi-Member LLCs: These may still offer more protection during bankruptcy, as courts are less likely to disrupt multiple owners' rights.

Asset protection planning should account for potential bankruptcy exposure, especially if you are the sole member of your LLC​.

Role of the Operating Agreement in Asset Protection

An LLC’s operating agreement plays a key role in preserving asset protection:

  • Custom Clauses: It can include provisions allowing members to buy out another member's interest if they become subject to a charging order.
  • Bankruptcy Safeguards: It may authorize the expulsion of a member who files for bankruptcy or loses control of their interest to a creditor.
  • Clarity for Courts: Well-drafted agreements help courts see the LLC as a legitimate, well-run business—important for preserving protections.

Taking the time to draft a thoughtful, customized operating agreement is especially critical in multi-member LLCs where member cooperation and business continuity matter most​​.

Frequently Asked Questions

  1. What is charging order protection in an LLC?
    Charging order protection limits a creditor to receiving only a debtor-member’s share of distributions without granting control over the LLC.
  2. Which states offer the strongest charging order protection?
    Delaware, Nevada, and Wyoming are known for offering strong, exclusive charging order protection, even for single-member LLCs.
  3. Can a creditor take over an LLC through a charging order?
    No. A charging order allows access only to distributions. Creditors cannot participate in management or decision-making.
  4. Are single-member LLCs protected by charging orders?
    Not always. Some states offer the same protection as multi-member LLCs, while others permit more aggressive remedies like foreclosure.
  5. How can I strengthen charging order protection for my LLC?
    Use a solid operating agreement, keep business and personal finances separate, and consider forming in a debtor-friendly state.

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