Friday, December 6, 2013
Nevada Supreme Court Addresses Member Status Upon Failure to Make Contribution to LLC
Nevada Supreme Court Addresses Member Status
Upon Failure to Make Contribution to LLC
Recently the Nevada Supreme court addressed the question of whether a member of an LLC who failed to make an initial capital contribution was or was not a member. Kaufman v. HLK, LLC, 2013 WL 5230797 (Nov. Sept. 12, 2013).
Kaufman and Hawley formed HLK, LLC. Kaufman’s initial capital contribution, to the extent paid, came from Hawley. Ultimately the trial court “concluded that Kaufman lacked an ownership interest in HLK.” This appeal followed.
The Nevada Supreme Court came down on Kaufman’s side. Under the Nevada LLC Act a capital contribution may be in the form of a promise to contribute, and a failure to do so creates a claim in favor of the LLC against the defaulting member. N.R.S. § 86.391. The statute did not define a consequence of a failure to perform as being a forfeiture of the membership interest.
HLK, LLC was being dissolved, so the outstanding question was what was Kaufman’s sharing ratio in the net proceeds. If his membership interest was forfeited his ratio would have been 0%. The Court rejected forfeiture. The operating agreement defined Kaufman’s interest, and he was entitled to that portion of the net proceeds after satisfaction therefrom of the outstanding liability.
The Kentucky LLC Act is in this respect similar to that of Nevada, allowing a contribution in the form of a commitment to contribute (KRS § 275.195(2)) and providing that the LLC’s remedy for a failure to contribute is a claim in damages for cash. KRS § 275.200(3).
It bears noting that good drafting can avoid this problem. An operating agreement may obligate a signatory to make a contribution (see KRS § 275.200(1)) and may provide any of a variety of consequences for the failure to perform including that he or she is not a member until the contribution is made or for forfeiture of the interest upon default. See KRS § 275.003(2).