Steps to Leave an LLC Partnership on the Right Foot

How Do LLC Partnership Agreements Work?

Take a look at your LLC Operating Agreement. Chances are your carefully drafted agreement (or one that you negligently executed without reading) has some rules in place for how an owner can exit the LLC partnership. Your Operating Agreement (if you have one or if there is one incorporated by reference from the state statute) should lay out all the procedures for how a current owner can withdraw from the LLC partnership. It is unlikely that an LLC Owner can just decide to walk away without having some procedure through the remaining LLC Owners . Again, this depends on the state statute as well as your LLC Operating Agreement, but to avoid any issues, it is best to chalk up what the rules are in your agreement for how to leave the LLC partnership. For example, a majority of LLC Operating Agreements will include clauses that pertain to one of the following: Take some time to review these clauses in your LLC Operating Agreement. Odds are pretty good there is already some guidance laid out for you in the document that can help at least open the door to a smooth exit strategy when it is time to go.

Informing Others of Your Intent to Depart

Once you have assessed what your share of the business is worth or agreed on terms for settlement, you need to formally communicate this information to your partners. Telling them that you are leaving isn’t enough — if you’ve held a position of trust and fiduciary duty, you could be open to liability if you simply walked away without informing them. Even if you’ve never signed a partnership agreement, you need to formally notify your partners that you intend to sever your relationship with them and leave the company. Again, how you do this depends on the level of securing you want, as you may choose to have your lawyer send the communication.
You should also check your operating agreement; if you have one, it is likely to contain a clause that details how to exit the firm and/or sells your stake in the LLC. This can help you avoid losing out on money you are entitled to by not following the proper procedure.
Once you send notification of your intent to leave and stipulations on the terms of the exit you’ve agreed to with other members, you will need to wait for acceptance from your partners. If you are at odds with them over the terms, come back to your assessment. Do they hold up under scrutiny? Are you really going to get more by pursuing a fight, or will you end up losing out on money or time? Is it worth prolonged conflict?

Legal Obligations and Effects

When you decide to move onto the next chapter in your life and step away from free-trading member status to "former member status" there are legal obligations that come with separation. You may or may not have a fiduciary duty to the other members, and depending on the company formation documents, there may be a buyout provision that should kick in based on your specific ownership interests in the LLC.
A written operating agreement is helpful in determining the rights and responsibilities of the parties but depending on the language contained it the document may not avoid litigation. If your LLC does not have an operating agreement, or if the document does not address the mechanism for withdrawal, the default rules would apply as set forth in Applicable Law. The Uniform Limited Liability Company Act’s ("ULLCA") default rule applies by default unless the company formation documents state otherwise. Many states have adopted the ULLCA or addressed the key issues at hand in their own legislation.
Additionally, the applicable state LLC statute will determine whether or not you will be personally liable for future debts. However, in most cases former members are not liable for business debts, so you are usually shielded from any future liability. Understanding the applicable laws is critical as it is a key factor in determining whether the separation should take place.
While the process of separating membership can be beneficial to the ex-partner, the process can be quite costly. These costs can be minimized by attempting to work with the former partner at the onset to come to an amicable exit plan.

Assessing The Value of Your LLC Share

Perhaps the most contentious part of dissolving your partnership under an LLC agreement is reaching an agreement on what portion of the LLC you are willing to sell to the other members and what price you are willing to accept. In order to have an objective basis to discuss the matter, you should consider hiring an independent appraiser who is an expert in valuing businesses. Although you must bear the cost of the appraisal, if you receive a higher price as a result, you should be all right. If you cannot agree on the engagement of an independent appraiser, a formal lawsuit is sometimes necessary.
I would recommend starting with a business appraiser who is a member of the International Valuation Standards Organization (IVSO). You can search the membership list for an appraiser with the appropriate expertise who is near your base of operations. Give that person a call and explain your situation. Ask for a ballpark estimate of the fee to value your ownership interest in the LLC.
If you and your partners do not like the estimate, I suggest hiring multiple appraisers so you have a few numbers to start from. If necessary and if the other members will agree, you can also hire an attorney experienced in negotiating the settlement of a partnership to help you. I suggest hiring a lawyer who is a member of the ABA’s Business Law Section/Partnerships and LLCs committee.
Some other factors to consider include the value of your role in the company and the possible impact of a "free agent" within the LLC. If the remaining members want you go, they will want to pay a fair price and this can be enhanced by offering to work for a few more months. Use the free agent aspect to enhance your value—if the company has a relationship with an important client, you may want to stay of otherwise your departure may not be smooth.
In negotiating a settlement with the remaining partners, you should have an independent appraisal in hand, which is sometimes enough to reach an agreement. Otherwise, the evaluation approach of the remaining partners may be very different from yours. In that event, review the literature and education available through the American Society of Appraisers (ASA) or other valuation professionals. While their primary purpose isn’t to advance the cause of one side or the other, their literature may give you a good idea of what each side thinks is a good argument or what they may consider an unreasonably low or high price.
Sometimes an independent appraisal, even if persuasive, is not accepted by the opposing side. In that case, you may have to go to court for a dissolution, again with the valuable input of an attorney who has experience in business valuations. The cost of dissolution cannot usually be paid from the company, but if you win and you’re forced to take the case all the way to a trial, you may collect your costs from the other party. If there’s an enforceable LLC agreement with a separate provision for prevailing party attorneys’ fees, you may also be able to collect those, although some courts have ruled such provision void.
Others outside the company can help you with some of the information and provide additional guidance on hiring appraisers and settling disputes, including:
Getting out of our partnership under an LLC agreement doesn’t have to be a contentious process, but it won’t be painless or free. Additional information can be found in the resources below:

How to Sell or Transfer an LLC Stake

Selling or transferring your interest in the LLC can be a relatively pain-free experience if you follow these steps:
Potential Buyers
You want to start with the obvious – will my current co-owner want to buy my share? Or, does it make more business sense to get someone else into the LLC as a Buyer?
Look at the LLC first – is it making money? Are there profits to share? Do you want to take your share and sell it for cash, or continue to receive a piece of the profits on an ongoing basis?
What about your current co-owner? If they do not have the cash to pay you, you may want to keep them in the loop and start looking for other buyers.
What other potential buyers are out there?
Review Your Operating Agreement
A good operating agreement will include language that sets forth the rules and procedure for transferring your interest in the LLC. The two most common restrictions are the "Right of first refusal" provision or the "Buy-Sell" provision.
Take the time to follow these terms. In the case of a right of first refusal , you must give the company the right of first refusal to buy your membership interest. If the current member(s) choose not to do so, you may sell to another party.
In the case of a buy-sell agreement, the current ownership will often have the right of first refusal to purchase your share. However, the company may have to purchase your share. In this case, you will be entitled to fair value of your interest.
If your Operating Agreement does not include a buy-sell provision, you may be able to amend the Agreement to include such a provision. Or, if you are able to sell your share to an outside buyer, you may decide to bring in the buyer without any right of first refusal.
It is important that you proceed with caution before selling or transferring your interest in an LLC, as the company may restrict your ability, or the amount of cash you receive for your share.

Tax Considerations When You Leave an LLC

Tax treatment of an LLC tax partnership can become quite complicated. When an ownership interest changes hands, whether in a sale or transfer, the new owner generally receives a "carryover basis" in that asset (meaning it carries over the basis that the previous owner had in the asset). So for example, if a partner (or member of an LLC taxed as a partnership) has a basis in its ownership interest of $50,000 and sells half of that ownership to another partner for $100,000, then the purchasing partner’s basis in the 50% ownership interest that it is acquiring will be $50,000, and its basis in the remaining 50% interest that it already owns will also be $50,000.
On the other hand, if the selling member’s basis in its ownership interest is only $10,000, then he will have capital gain of $90,000 on the sale of the half of his interest, and that will be reported on his Form 1040 in the year of the sale. If an ownership interest is an appreciated asset, the seller is entitled to be compensated for that appreciation in the selling price.
However, the IRC §736 buyout rules generally allow an interest in a partnership to be repurchased by the partnership itself. This can occur even if the purchase is structured as a sale. In this case, the basis for the buyout will be the value of the departing owner’s interest compared to the basis going into the partnership. The result is to shift the interest of the seller to the continuing owners based upon their proportionate shares of the remaining ownership interests in the partnership (IRC §736(c)(2) and (b)).
Depending on the partnership agreement, buying the departing owner’s interest back may be the best way to preserve the exiting owner’s interest in the partnership. Further, this method of buyout may fund the payment to the departing owner with money that otherwise would go to the continuing owners. The partners cannot report an actual loss on the buyout to the extent that the buyout pays the lower basis to the partnership, but the IRC §736 option allows a taxable event. The "additional tax" on the proceeds allows the parties to agree on "inside" basis, and the buyout can work much like a stock redemption of a C corporation (IRC §736(b)(1)(C)), except that the controlling interest is not terminated. (See IRS Private letter rulings 9254005, 9649021, and T.C. memorandum 200616077.)
The particular circumstances of each transaction must be examined carefully to determine what makes the most sense in light of the buyout, the ownership structure and the goals of the partners.

Exit Checklist

Before you exit the LLC, check to make sure that you have settled any outstanding financial obligations. This means reviewing any expenses that were incurred prior to your exit, along with making sure that you have been properly compensated for profit distributions. Make sure to review and execute any relevant documents that require signatures, including those required by the state in which the LLC is based . If you became a member of the LLC because you purchased a membership interest, make sure to review the purchase agreement in order to make sure that you have addressed some of the prerequisites that apply to withdrawals. In addition, review any tax obligations that may exist, including those pertaining to federal, state or self-employment income taxes. Properly completing all of these steps will ensure that you have formally exited the company in compliance with any specific state requirements.