When a multi-member LLC is formed, members usually have the best intentions. But disputes can sometimes arise when members don’t agree on how the business should be operated — or members with a controlling interest engage in conduct that is oppressive to the minority members. Conflicts can also occur when a controlling LLC member excludes the minority members from management decisions or distributions are withheld. In cases involving a controlling member’s abuse or wrongdoing, a minority member may be entitled to file a claim for LLC member oppression and ultimately, for dissolution of the business.
“Oppression” generally refers to the actions taken by one or more members in an LLC to wrongfully deprive minority members of their rights. While there are many types of oppressive conduct that can be inflicted upon a minority LLC member, “squeeze-outs” are one of the most common forms of oppression. In such cases, the controlling LLC members transfer the LLC’s assets into a newly formed LLC, and ultimately force the minority member to give up their ownership. Similarly, a “freeze-out” happens when a controlling LLC member attempts to limit the income of a minority member or the control they have over it.
Other common forms of LLC member oppression may include:
Oppressive behavior can also involve engaging in conduct that leads to waste of business assets, as well as failing to follow the LLC operating agreement. Importantly, the business judgment rule assumes controlling LLC members will make decisions in good faith that are in the best interests of the company — it shields them from liability, even if the outcome is poor. But the doctrine does not protect LLC members from liability for fraud, bad faith, willful misconduct, or a breach of fiduciary duty.
LLCs are different from corporations when it comes to matters involving oppression. While the Illinois Business Act provides 12 statutory remedies for shareholder oppression — dissolution is the only remedy specified under the Illinois LLC Act in cases involving oppression or fraud by members with a controlling interest. Dissolution means ultimately ending the LLC’s legal existence. Once dissolution has been ordered, the LLC is required to stop conducting all business and begin winding up its affairs. Creditors must also be put on notice and all debts must be settled during this time.
In some cases, a judge has the discretion to award a remedy other than dissolution — including a buyout of the minority member’s distributional interest. A distributional interest refers to the member’s economic right to receive monetary distributions from the LLC’s assets, but no other interests of a member.
LLC member oppression claims should not be confused with derivative actions. Specifically, if the LLC itself has a cause of action, and the managers or members have failed to pursue a claim, members may file a derivative action to recover damages on behalf of the LLC. This mechanism allows members to take action to protect the interests of the LLC when it becomes necessary to enforce its rights. However, it’s essential to understand that this vehicle can only be used when the claim belongs to the LLC, rather than an individual member.
One of the best ways to safeguard the interests of minority members and prevent LLC member oppression is with a well-drafted operating agreement. This document details how the LLC will operate, decisions will be made, profits will be distributed, and losses will be handled. Critically, an operating agreement can specify the rights of minority members — including their economic rights, voting rights, the right to inspect records, and the right to an appraisal. It can also specify the circumstances under which a member can be expelled from the LLC and establish a method for resolving disputes.
Every LLC is unique and has different requirements. It's important not to use boilerplate operating agreements as these do not always adequately outline the rights and responsibilities of members. It’s best to have the assistance of a skillful business attorney who can help draft an operating agreement that fits the needs of the LLC.
If you are facing an LLC member oppression claim, a knowledgeable Illinois business law attorney can advise you regarding your remedies and guide you through the process of filing suit. Located in Rolling Meadows, Litico Law Group serves the legal needs of small businesses, LLCs, and corporations throughout Illinois for a wide variety of matters. We welcome you to contact us or give us a call at 847-307-5942 to schedule a consultation to learn how we can assist you.