Charging a Debtor’s Interest in a Business Entity: An Examination of the Differences Between Limited Liability Companies and Partnerships

by David S. Brown, Esq.
 
A charging order is the exclusive remedy by which a judgment creditor can attach a debtor’s membership interest in a limited liability company, or a debtor’s economic interest in a partnership.[1]  Unfortunately, vastly different rules apply to charging orders depending on the type of entity that the debtor holds an interest in.  It is important for judgment creditors to understand these differences as they may limit the effectiveness of the attempted execution.

R.C. § 1705.19(A) provides the mechanism by which a judgment creditor can charge a debtor’s membership interest in a limited liability company.  Specifically, that section states, “[i]f any judgment creditor of a member of a limited liability company applies to a court of common pleas to charge the membership interest of the member with payment of the unsatisfied amount of the judgment with interest, the court may so charge the membership interest.”  Unfortunately though, a judgment creditor who successfully charges a debtor’s membership interest in an LLC only has the rights of an assignee – not of a member.

Pursuant to R.C. § 1705.18, an assignee is not entitled to exercise any rights of a member.  Instead, “[a]n assignment entitles the assignee only to receive, to the extent assigned, the distributions of cash and other property and the allocations of profits, losses, income, gains, deductions, credits, or similar items to which the assignee’s assignor would have been entitled.”  Thus, a creditor cannot charge a debtor’s membership interest in a limited liability company with the intention of dissolving or liquidating the company.

This restriction significantly limits the use of charging orders for sole proprietorships or closely held companies operating as LLCs.  After all, it would be difficult – if not impossible – to enforce such an order against Joe the roofer who operates a one man shop and pays himself by simply commandeering the company’s check book.  With this in mind, charging orders do have their place in a creditor’s portfolio of execution tactics, and can be very useful in the event that a debtor holds a membership interest in a legitimate business entity which routinely returns a profit or pays some type of distribution.

Creditors that wish to charge a debtor’s economic interest in a partnership are governed by a much more favorable statute.  The Uniform Partnership Act, codified in Ohio as R.C. § 1776.50, states that “[o]n application by a judgment creditor of a partner’s transferee, a court having jurisdiction may charge the economic interest of the judgment debtor to satisfy the judgment.”  It goes on to explain that, “[t]he court may appoint a receiver of the share of the distributions due or to become due to the judgment debtor in respect of the partnership and make all other orders, directions, accounts, and inquiries the judgment debtor might have made or which the circumstances of the case may require.”  Finally, it gives courts the authority to order a foreclosure of the debtor’s interest subject to the charging order.  As one can imaging, both the appointment of a receiver and the foreclosure of a partner’s interest are remedies that are sure to make the remaining members of a partnership uncomfortable.  This can be a great advantage to creditors when discussing settlement.

In summary, it is important for creditors to understand what type of business entity their judgment debtor has an interest in before filing a charging order.  If the debtor has an interest in a limited liability company, the creditor may be limited to simply collecting rent, dividends, or other disbursements – even if the company has some very valuable assets.  If the debtor has an interest in a partnership, the creditor may have the ability to implement much more invasive tactics, such as having a receiver appointed, or foreclosing on the debtor’s interest.  Either way, charging orders can prove useful in the collection of a creditor’s judgment.

David Brown practices in Commercial Collections based in the Cleveland office of Weltman, Weinberg & Reis Co., LPA. He can be reached at 216.685.1062 and dbrown@weltman.com.

[1] Ohio Revised Code §§ 1705.19 and 1776.50.

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