Effective January 1, 2014, the 1994 limited liability company (LLC) statute in California (the “Old Act”) was replaced by the California Revised Uniform Limited Liability Company Act (RULLCA) (the “New Act”). This new law may have an adverse affect on existing California limited liability companies by effectively rewriting the terms of their operating agreements. To avoid potential disputes among members and/or managers, the members of California limited liability companies should review, and if appropriate amend, their current operating agreements.
The New Act states that the Old Act continues to govern all contracts, including operating agreements, entered into by an LLC, its members or managers, prior to January 1, 2014, as well as any vote or consent by members or managers prior to that date. The New Act also provides, however, that any acts taken by an LLC, its members or managers on or after January 1, 2014, will be governed by the New Act. Thus, the New Act not only supplements pre-2014 operating agreements, but also in many cases may materially change the rights and obligations of the members and managers by subjecting any of their actions taken after January 1, 2014, to the requirements of the New Act.
Key Changes in the New Act
Default Rules: The Old Act had a minimal number of mandatory provisions and instead provided “default rules” which applied only if the operating agreement did not override them. The New Act, however, greatly expands the number of default rules, and pre-2014 operating agreements likely have not addressed all of these new or modified rules. Thus, per-2014 operating agreements may have new default rules interjected into them and, as a result, the LLC and its members would be subject to a default rule even if it was contrary to the intent of their business arrangement.
Management Authority: The Old Act contained only a few rules regarding when a manager would need to obtain the consent of members prior to taking action. Members could agree, in the operating agreement, to expand the number of actions for which a manager needed their consent or to keep the consent rights to a few important actions, such as making changes to the articles or the operating agreement, or entering into a merger. The New Act greatly expands the consent rights of members. Thus, depending on the language in the operating agreement, the New Act may effectively limit the authority of a manager to take actions that the manager could have taken prior to 2014.
Also note, many operating agreements were drafted with the intent of giving the manager (who often is the member with the greatest interest) absolute decision-making control over actions both in and outside the ordinary course of business. In light of the New Act, however, this scope of control could be materially changed and give a minority member a veto right where the members did not originally so intend.
Impact of “Transferees”: Under the Old Law, the person to whom any portion of a membership interest is transferred is referred to as an “assignee.” Unless admitted as a member, the assignee would not have any of the rights of a member other than to receive distributions associated with the assigned portion of the membership. The New Act retains this same concept, however uses the term “transferee” instead of “assignee.” Further, the New Act includes a new default rule. Specifically, the New Act states that an amendment to the operating agreement made after a person becomes a transferee is effective with regard to any obligation of an LLC or its members to the transferee. Thus, because the transferee would not have a right to approve an amendment (unless that right is stated in the operating agreement), this new default rule seems to give members the ability to amend an operating agreement to modify, reduce or eliminate obligations owed to transferees.
Unintended Change in Status and Loss of Member Rights: Under the New Act, certain events can result in the “dissociation” of a member. This change in a member’s status would result in the member no longer enjoying the statutory rights of a member, but only the more limited rights of a transferee. Pre-2014 operating agreements typically do not contain language maintaining a member’s status upon the occurrence of dissociation events or negating the default rules relating to dissociation.
Certain Dissociation Events: Dissociation events under the New Act include the following:
- The death of a member who is an individual;
- If the LLC is managed by its members, the appointment of a guardian or conservator for an individual who is a member;
- If the LLC is member managed, a judicial order that a member who is an individual is incapable of performing the member’s duties; and
- If the LLC is member managed, a member becomes a debtor in bankruptcy.
If the members do not want any of these events to result in the dissociation of a member, they should amend their operating agreement.
Impact of Transferee Status on Dissociated Members: Under the New Act, a dissociated member is subject to the same risk as a transferee, namely that the members may amend the operating agreement to modify the obligations owed by the LLC or its members to the dissociated member. Further, a dissociated member, by reason of its transferee status, no longer has the right to participate in the management or conduct of the activities of an LLC. A dissociated member also no longer has a right to have access to records or other information concerning the activities of the LLC other than the right to an accounting from the date of the LLC’s dissolution.
Unintended Change in Manager Status if Member-Manager Dissociates: If a member who serves as a manager becomes a dissociated member, the New Act provides that the member is removed as a manager.
Indemnification and Reimbursement: The Old Act provided the default rule that an operating agreement may provide for the indemnification of any person acting on behalf of the LLC. The default rule under the New Act is that the LLC must indemnify members of member-managed LLCs and managers of manager-managed LLCs, so long as the member or manager has complied with its statutory duties.
The New Act also has a default rule requiring an LLC to reimburse members of member-managed LLCs, and managers of manager-managed LLCs, for payments made by them in the course of their activities on behalf of the LLC, provided that they have complied with their statutory duties.
*The above discussion is intended to serve only as a summary of certain matters relating to the New Act and its potential impact on existing operating agreements for California LLCs. This is not an exhaustive list of changes in the New Act and your existing operating agreement may or may not be affected by the New Act. For questions about the new California LLC law or assistance evaluating your current LLC agreement, please contact Buche & Associates, P.C. at 858-459-9111, or email John Buche at email@example.com.
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