Your first question may be, what exactly is my LLC interest. In short, your LLC interest is your bundle of rights and privileges defined by LLC members in the LLC operating agreement unlike corporate stock, it is not usually held in the form of a membership certificate. Instead, it is usually set forth in the operating agreement under the term “units” which, like stock, can be authorized by the LLC and then issued to the LLC members in proportion to their ownership percentage. They can be voting and non-voting and have other rights and classes. Usually there is just one class of 1000 voting units. Our standard operating agreement has 500 voting units and 500 non-voting units. Interests are usually just a synonym for units. In case of your death, you should protect your LLC interest by knowing what will happen to it within the operating agreement and what you can control though your own estate plan.
While it is possible to have LLC interests “payable on death” to named beneficiaries, that is very unusual. Instead, LLC interests can be titled in the name of your estate planning revocable trust or if titled in your own name, then controlled by your last will and testament. However, passing on an interest in an active business may be an unwanted burden to both your loves ones and your business partners.
For a multimember LLC with an active business operation (not just passive asset holding LLCs), the most powerful action you should take to protect your LLC interest in the case of death is to write a “Buy/Sell” provision in your LLC operating agreement. The “Buy/Sell” provision is a common and effective set of instructions. It states the rules and terms upon which transfers of interest in an LLC occur. In the “Buy/Sell” provision, you may write stipulations for what will be done with the LLC members’ interest when they die. A common stipulation in the case of death is that the living LLC members have either the option to buy your LLC interest, or (if stated) the legal obligation to buy your LLC interest. The proceeds of your LLC interest would then go to your estate.
The advantage of this “forced buyout” at a set formula price financed over a period of time (typically a 5 year note) is that it helps business continuity and keeps out unwanted partners, such as spouses of other members. Additionally, the beneficiaries of other members’ estates get a cash buy-out, rather than the burden and uncertainty of having to help own and possibly manage a business they may not be in a position to operate.
The “Buy/Sell” provision is not usually in standard written LLC Operating Agreements from other incorporation services. This stipulation for living LLC members to purchase your interest is useful for many reasons. One of the most important reasons is that LLC members often do not want to be forced to go into business with the family of an LLC member. Also, the family of an LLC member usually do not want to go into business with the other LLC members either.
Your “Buy/Sell” provision (along with a stipulation that living LLC members have the option or obligation to purchase your interest, which can be funded with life insurance), solves this problem by keeping the business of the LLC within its original members, while automatically disposing of your LLC interest after you die. Writing forced sale within the “Buy/Sell” provision of your LLC operating agreement is a powerful and effective measure to ensure that your LLC interest does not become a burden to your loved ones.