How to Buy Out an LLC Member (6 Steps)
1. Check Operating Agreement
Your buyout agreement must align with your LLC’s governing document. The operating agreement usually answers such questions as whether the selling member must first offer the interest to other members before dealing with an outsider, and whether a buyer assumes an economic interest or full voting and membership rights.
4. Transfer Membership Interest
A good way to document the transfer of an interest is by using an assignment agreement form.
5. Update Operating Agreement
Change the operating agreement and any state filings to reflect the LLC’s new ownership structure.
6. Handle Taxes
Give the departing member a Schedule K-1 for the year the buyout takes place. If an LLC has been taxed as a partnership, members can choose to adjust the entity’s asset tax basis after the buyout is complete.[1] If the buyout turns a multi-member LLC into a single-member LLC, be mindful that the entity can no longer be taxed as a partnership.[2]
Tax Allocations
LLC members can choose one of two ways to deal with tax allocations:
- Interim-closing method. According to this method, the accounts basically close on the closing date, so whatever was earned before closing will count as the seller’s taxable income, and whatever was earned after closing will belong to the buyer. This is the default method of allocating tax.
- Proration method. The alternative is to divide up the tax allocations based on the full fiscal year. This means the seller and buyer will be taxed according to how long they owned the interest, regardless of whether the company earned more or less in that period
Full Member vs. Economic Assignee
A full member has full voting rights and can participate in the entity’s management, in addition to rights to the company’s profits. In contrast, an economic assignee has rights only to distributions. An LLC buyout agreement should be clear about whether or not an outside buyer can become a full member.
Buyout vs. Dissolution
A buyout involves a member or members purchasing a departing member’s interest in an LLC. When the buyout is complete, the entity continues operating, but under different ownership. A dissolution winds up an LLC.