Does a deal with Taylor turn into a deal with Travis? - by Thomas Kearns

Taylor Swift’s and Travis Kelce’s recent engagement brings up a common clause in real estate investment LLC agreements. A key tenet in the law of LLCs is the pick-your-partner principle. Members of an LLC have the right to choose with whom they do business with because the compatibility of the group of owners is critical to the success of the company. Generally, a mere assignee of an LLC interest get the economic benefits of the interest but do not automatically enjoy all of the other rights of the assigning party unless formally admitted to the LLC as a member, either by the consent of the LLC’s manager or members or through an express provision of the LLC agreement. Some LLC agreements have assignment provisions that permit transfers to family members without any consent to permit estate planning and to encourage a long-term hold of the asset. The definition of family in LLC agreements can vary but often includes spouses.

How should a sponsor of an investment handle the spouse situation when drafting the LLC agreement for a proposed deal keeping in mind that if you are doing a deal with Taylor Swift, you may not be as happy having Travis Kelce as your partner and vice versa. And, if you have an existing agreement that requires consent to the admission of the assignee as a member, what should a sponsor do? The ramifications are more important when the LLC agreement grants voting rights to admitted members. If the agreement grants voting rights for all or some business decisions and the manager or members have the right to approve the admission of the family member assignee, the decision whether to admit the assignee can be fraught. The proposed family member might be litigious, might not have any business experience, or might not pay attention during football season or while on a world tour!

Many recently drafted LLC agreements I have seen from sponsors are specifically drafted to avoid giving voting rights to assignees at all. The assignee will usually be entitled to all economic benefits of the LLC intertest but won’t have a vote in the operations of the LLC. (They typically also restrict change in control of entities that are members of the LLC.) While case law is confused and depends on the exact wording of the clause, restrictions on the admission of assignees should be enforceable. Of course, circumstances may vary. For example, a major investor with a spouse or child with investing experience may insist on an automatic admission of the successor. Sometimes, the agreements refer to certain people being pre-approved as potential assignees.

But what to do about an existing provision where consent to admission as a member is included in the existing LLC agreement and members have voting rights? Managers and members should tread carefully and review the terms of the existing agreement to see if any amendments to the LLC agreement could be helpful. For example, there have been court decisions on books and records demands made by litigious minority members. Express provisions in the LLC agreement could help the LLC managers limit the cost and interference posed by harassing books and records requests while still providing fair disclosure.

The LLC agreement’s indemnification clause should be reviewed to make sure updates are not needed after recent case law. For example, the advancement provisions should be reviewed to make sure the company itself pays for costs of any unfair lawsuits as incurred, not after the matter is over. New York case law in particular can be tough to navigate. One example: some New York court decisions have held that while legal fees may be covered by the clause, legal fees to sue to collect the legal fees due may not be covered depending on the exact language of the provision. This is the so-called “fees on fees” issue.   

Of course, in order to accomplish these amendments, you will likely need the consent of a majority of the members, and you may open yourself to a claim from the litigious assignee that the changes were designed to limit their rights. The decision to admit an assignee may be as much political as legal and may depend on the relationship of the business partners, the other deals they have together and the level of concern over approval of future decisions. But managers and members of LLCs should be cognizant of the issues involved and that there may be a difference between being a mere assignee and an admitted member depending on the exact wording of the LLC agreement.

Thomas Kearns is a partner with Olshan Frome Wolosky LLP, Manhattan, N.Y.