Merrill Ranch Properties, LLC v. Austell[1] involved a bank loan to an LLC, secured by certain property in Arizona and guaranteed by an affiliated individual and eight trust entities he controlled. At some point, the loan was declared in default and the bank filed a lawsuit in Arizona against the borrower and the guarantors to recover the balance of the loan. The lawsuit eventually settled. Subsequently, however, the plaintiff discovered that shortly after the loan was declared in default, three LLCs with corporate relationships to the guarantor transferred certain assets to various newly-created entities that were, in turn, directly or indirectly owned by trusts controlled by the guarantor. According to the plaintiff, this, in essence, amounted to fraudulent transfers, as those assets should have been used to pay off the loan first. So the plaintiff filed a lawsuit to set aside these assets and obtained charging orders against the membership and ownership interests of various judgment debtors in numerous LLCs.
One of the issues on appeal was whether the plaintiff was a creditor of the transferring LLCs so as to have the right to seek to set aside those transfers. According to the plaintiff, it became a creditor of those LLCs when it obtained the charging orders because the charging orders created a “right to payment” from the LLCs and, thus, a “claim” against those LLCs. The court disagreed. The court explained that, when a charging order is issued with respect to an LLC, from the LLC’s standpoint, “it is business as usual except that any distributions to the member subject to the charging order are diverted to the judgment creditor.” The court said that a charging order does not create a debtor-creditor relationship between the judgment creditor who obtained the charging order and the LLC whose member’s interests are being charged. In other words, if a creditor of a member of the LLC does not also have a debtor-creditor relationship with the LLC, the creditor does not become a creditor of the LLC just by obtaining a charging order against the LLC. Accordingly, the court concluded that the creditor does not have the right to seek to set aside a transfer of assets made by the LLC solely by obtaining a charging order against the LLC.
So, does a charging order against an LLC make the creditor a creditor of the LLC? According to this court, no, a charging order against an LLC does not create a claim against that LLC; it just diverts any distributions from the LLC to the debtor/member to the creditor, and other than that, it is business as usual.
This post was part of a two-part series on LLC charging order. You can find the other post by searching our blogs at www.mcbrideattorneys.com. If you have any questions about the content of this blog or other business law issues not discussed here, please contact us.
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[1] Merrill Ranch Props., LLC v. Austell, A15A2313 (Ga. App. Mar. 28, 2016). Unless otherwise specified, all references to the case are to this citation.