Can I withdraw from a New York LLC? Clients are often confused when they see this provision in their operating agreement:
A Member may not withdraw from the LLC prior to the dissolution and winding up of the LLC.
Or this provision:
A Member may withdraw from the Company in accordance with the New York Limited Liability Company Law.
“Wait, I can never leave this LLC, even if I get sick, move on to something else or just change my mind?”, they say.
Or, “so fellow Member X can blow this popsicle stand any time he wants and leave me with all the work?”
No, it’s not that simple, let me explain.
TL; DR version:
You cannot shed your membership status in a New York LLC unless the operating agreement specifically says so. Section 606 NY LLC Law. If the operating agreement does say so, it must come with provisions that provide for the consequences of the withdrawal. Does the member get any payment for withdrawal or not? How much? When?
If the operating agreement only states “Members may withdraw….”, and nothing else, the default rule of the law applies and the member is entitled to receive, within a reasonable time after withdrawal, the fair value of his or her membership interest. Section 509 NY LLC Law. This is often not the desired outcome. The LLC may have no funds to pay the withdrawing member who leaves on a whim. Thus, in drafting operating agreements, I am careful to consider all possible exits by members and plan for their occurrence.
Withdrawal as per New York Limited Liability Company Law
The term “withdraw” is mentioned several times in New York’s Limited Liability Company Law. As you may know by now, the Limited Liability Company law applies when you do not have an operating agreement for your LLC or if your operating agreement remains silent on something that is otherwise mentioned in the law. “Withdraw” is mentioned. If you have no operating agreement, the law provides in Section 606:
Notwithstanding anything to the contrary under applicable law, unless an operating agreement provides otherwise, a member may not withdraw from a limited liability company prior to the dissolution and winding up of the limited liability company.
So the default rule is that a member cannot withdraw unless the operating agreement provides otherwise.
In 509 it provides,
upon withdrawal as a member of the limited liability company, …….., if not otherwise provided in the operating agreement, he or she is entitled to receive, within a reasonable time after withdrawal, the fair value of his or her membership interest in the limited liability company as of the date of withdrawal based upon his or her right to share in distributions from the limited liability company.
So if your operating agreement has the clause “may withdraw” and nothing else, the member who withdraws is immediately entitled to receive the fair value of his or her membership interest. This can put the LLC in a precarious situation, since it may not have the resources to pay the withdrawing member.
Ways to deal with LLC Member Withdrawal in your New York Operating Agreement
To avoid any implication that a member may withdraw and this provision applies, I usually include the first provision that says that members may not withdraw. Even though the law clearly says you cannot withdraw unless it is said so in the operating agreement, there may be ambiguities about what other scenarios could constitute a withdrawal. And then, before you know it, someone may interpret it as if he or she is entitled to a fair value buyout on a whim when he or she decides to leave.
But I will also advise including real-world scenarios of a member leaving and the consequences of that. There could be any combination of:
When a member gets sick or dies, what will happen to his membership interest? Is anybody getting a payout? If he is just sick, does he have to leave?
When a member just wants to leave for no reason, can he and does he have to give up his membership interest? If he can leave and give up his membership, is he paid anything, or do we punish him for leaving us in the dust, and pay him nothing or close to nothing?
When a member does something really bad, do we want to have the ability to throw him out?
I will apply my lawyer brain to your situation and envision every “what could go wrong” situation and discuss it with you in drafting an optimal operating agreement for your New York LLC.
Call me up if you have any questions about this topic.