Question: Some people, including some lawyers, say that a single member limited liability company does not give the member/owner any asset protection. Is that true?
Answer: No. People say this to me all the time. I also see a lot of articles on the internet that make the same erroneous statement. I even know of lawyers who spread this myth.
People who claim single member LLCs do not provide any asset protection are ignorant of both asset protection law and LLC law. If a person or entity forms a single member Arizona LLC to operate a business or to own investment real estate and if the LLC is operated in compliance with applicable laws, the LLC gives its owner the same protection from the LLC’s debts and obligations that Arizona law gives to multi-member LLCs and single shareholder corporations.
Example 1: Homer Simpson forms an Arizona LLC and owns it as his sole and separate property. He is the only member. Homer writes a check to the LLC for $50,000 that the LLC uses to buy a rental home. The tenant’s mother slips on stairs in the home and dies. Victim’s family sues the LLC and Homer and attempts to pierce the company veil and hold both the LLC and Homer liable for the family’s damages. If Homer’s LLC has complied with applicable laws and if Homer did not have anything to do with causing or knowing of the problem with the stairs, Arizona law should protect Homer from any judgment rendered against the LLC that owns the home. If you think this example is ridiculous, see Kerege v. Viscount Hotel Suite, one of the ten largest Arizona jury awards in 2010 that involved an elderly woman who fell down carpeted stairs in a hotel atrium and died. The jury awarded the plaintiff $3,000,000.
I am not aware of any Arizona court case that has found the owner of a single member Arizona LLC liable under the fact pattern described above. If you know of such a case, please send it to me.
I am not saying that the owner of a single member LLC cannot be liable for causing harm in connection with the LLC’s activities. Never forget this important fact of life:
A person is always liable for harm caused by the person’s acts or omissions even if the acts or omissions arise while acting on behalf of a limited liability company.
Example 2: Same facts as in Example 1 above except Homer installed the carpeting on the stairs and his installation made a bump on the stairs that caused the tenant’s mother to trip when her foot hit the bump. Homer’s botched installation job caused the accident so he will be liable for the harm he caused and so will the LLC because he was acting on behalf of the LLC when he installed the carpet.
The result in Example 2 does not mean that a single member LLC does not provide any asset protection. Homer would not have escaped liability for causing the accident if the LLC had been a multi-member LLC. The number of members of the LLC is irrelevant in this scenario because Homer’s liability arises because of his bad act.
What is the Source of this Myth?
The reason some people mistakenly claim the single member LLC does not offer any asset protection arises from a misunderstanding of the legal implications of a famous (in LLC lawyer circles) bankruptcy case called “In re Albright,” No. 01-11367 (Colo. Bkrpt. April 4, 2003). This case involved a woman who was the only member of an LLC that had assets. She argued that the bankruptcy court could not give the assets of the LLC to her creditors because Colorado LLC law provided that the creditors’ remedy for claims against its sole member was a charging order. The bankruptcy court rejected that argument and allowed the bankruptcy trustee to sell the LLC’s assets and give the proceeds to Albright’s creditors.
The court made some statements that it may not have liquidated the LLC if it had multiple members. It said:
“To the extent a debtor intends to hinder, delay or defraud creditors through a multi-member LLC with ‘peppercorn’ co-members, bankruptcy avoidance provisions and fraudulent transfer law would provide creditors or a bankruptcy trustee with recourse.”
This off the cuff statement (called “dictum”*) are the basis on which the nonbelievers claim that single member LLCs do not provide any asset protection.
*Latin for “remark,” a comment by a judge in a decision or ruling which is not required to reach the decision, but may state a related legal principle as the judge understands it. While it may be cited in legal argument, it does not have the full force of a precedent (previous court decisions or interpretations) since the comment was not part of the legal basis for judgment. The standard counter argument is: “it is only dictum (or dicta).”
The Albright case did not involve a claim made against the LLC that arose from the LLC’s activities. I call this type of claim a bottom up creditor claim. Instead, the Albright case involved claims MADE AGAINST THE SOLE MEMBER ARISING FROM THE MEMBER’S ACTS OR OMISSIONS. IT DID NOT INVOLVE A CLAIM THAT AROSE FROM THE ACTIVITIES OF THE LLC AND AN ATTEMPT BY THE CREDITOR TO PIERCE THE VEIL AND HOLD THE SOLE MEMBER LIABLE FOR THE DEBTS OF THE LLC. See my graphical depiction of bottom up and top down creditors.
It takes quite a leap of ignorant faith to conclude from In re Albright that it stands for the proposition that single member LLCs lack asset protection. Nationally known asset protection attorney Jay Adkinson says the following about single member LLCs, In re Albright and asset protection on his great website called “Asset Protection Book:”
“Based on Albright, sometimes I hear planners blurt out, “Single Member LLCs provide no asset protection!” This is wrong. The lack of charging order protection is a far cry from concluding that SMLLCs are “worthless” as asset protection vehicles. SMLLCs may still provide substantial protection for owners against the liabilities of the entity itself, which are so-called “internal liabilities”.
For example: SMLLC owns a strip mall and is successfully sued by one of the tenants. If the SMLLC is adequately capitalized, is not the alter ego of the sole member, and is not used to perpetuate a fraud, the tenant may not assert liability against the member.
There is no reason that a SMLLC should be treated much differently from a sole shareholder corporation. Historically, sole shareholder corporations have contained liability within the entity and shielded the liability away from its owners.
To summarize, even if SMLLCs do not offer the same charging order protection as multiple-member LLCs, they can still be very valuable business planning vehicles. Certainly, it is preferable from a liability standpoint to own one’s business in a SMLLC than to run it as a sole proprietorship. But of course, where external liability is a concern and it is feasible to add another member, that should be done so that charging order protection arises.”
To learn more about this topic and attacks by creditors on the charging order protection offered by LLC laws in states outside Arizona, read my article called “Beware of the Single Member LLC.”