Capital Account As Brokerage Account A capital account is something like a brokerage account. It keeps track of how much you put into the LLC, and how much you are entitled to take out. 26
Capital Account As Brokerage Account When the LLC earns money, your share of the earnings increases your capital account – the way earnings on your brokerage account increase your balance. When the LLC loses money, your share of the losses reduces your capital account – the way losses on your brokerage account reduce your balance. When you take money out of the LLC, you reduce your capital account – like withdrawing money from your brokerage account. When the LLC liquidates, it is like closing your account – you should be left with a zero balance. 27
Avoid Common Misconceptions The Capital Account is not just Contributions less Distributions. Allocations of profits and loss must be shown in the Capital Account. Some LLC Agreements define a concept such as "Unreturned Capital" consisting of: Capital Contributions, less Certain Distributions (those Distributions treated as return of capital). Do not assume that Capital Account corresponds to Unreturned Capital. 28
Avoid Common Misconceptions There is not necessarily any correlation between Capital Account and tax basis. The Capital Account is generally supposed to reflect book value rather than tax basis. The Capital Account does not include debt because it is an equity interest. However, a member’s basis in the LLC interest will include the member's share of the LLC's debt (almost, but not exactly, as if the member incurred the debt himself). 29
Final Capital Accounts Equal Zero There are different ways to draft an LLC Agreement, but different drafting approaches generally aim for the same result over the lifetime of the LLC: Contributions +/- Allocations – Distributions = Capital Account = 0 30
Final Capital Accounts Equal Zero It may be simpler to think of capital accounts this way: Capital accounts represent the net assets of the LLC (assets less liabilities). When the LLC liquidates, it pays off its liabilities and distributes its net assets to the members. After the LLC has paid off all its liabilities and distributed all its assets, it has no assets or liabilities. If the LLC has no assets or liabilities, the capital accounts should be zero. 31
Allocations Can Be Negative Positive allocations are supposed to reflect an increase in the amount that the member is entitled to receive, on liquidation if not before. Negative allocations -- allocations in the nature of deductions or losses -- reflect a reduction in the amount a member is entitled to receive, and may even reflect amounts the member is required to contribute to the LLC. For simplicity -- and also because businesses tend to be more interested in making money than in planning for losses -- this presentation focuses almost entirely on profits. 32
Capital Accounts Can Be Negative Distributions and loss allocations could cause the capital account to be negative at a given point in time. To ensure that the capital account equals zero on liquidation the LLC agreement may require: Additional capital contributions. Additional income allocations. 33
Capital Accounts Can Be Negative LLC members are usually not required to make additional capital contributions to bring negative capital accounts up to zero, so additional income allocations are required instead. The most complicated and confusing tax language in typical LLC agreements is designed to ensure that a member is allocated additional income to prevent a negative capital account after liquidation. In the Investment Company LLC Agreement , these monstrous provisions are in Section 4.2.2 (the "Regulatory Allocations"). 34
Tax Follows Book With some exceptions, the Regulations say: Tax income follows from "book" income . Once you know the allocations on the "books" of the LLC, you generally (not always) know what taxable income each member of the LLC has. 35
How Many Books Do You Need? An LLC may have to keep three or more kinds of books: Tax. Financial reporting (GAAP, IFRS or other). "704(b)" (defined by Regulations under Section 704(b) of the Code). Typical LLC agreements require the LLC to keep 704(b) books. 36
704(b) Books vs. Tax Books Most of the allocation provisions in typical LLC agreements are technically 704(b) book allocations; they are not tax allocations. 704(b) books start from taxable income, but make significant adjustments. 704(b) books represent, in effect, the IRS's version of the real economics of the deal. 37
704(b) Books vs. Tax Books The theory is that the real economics should determine the tax consequences. For example, if you will be entitled to a distribution of profits, you – not another member -- should be taxable when those profits are earned. In many situations, you cannot figure out the tax consequences without first thinking about the 704(b) books. 38
Remember Capital Accounts are maintained on the books of the Company. Capital Accounts are bookkeeping entries; they do not represent cash. Capital Accounts under the tax Regulations are kept under a special set of "book" principles. They do not necessarily reflect tax basis or GAAP or anything else. 39
What We Know So Far: 1. Members generally pay tax on LLC income allocated to them. 2. Allocations must have economic effect. 3. Allocations generally are valid if upon liquidation at book value , Contributions +/- Allocations = Distributions. 4. Capital Accounts represent what each member would receive at liquidation if the LLC is honoring the formula. 5. Capital Accounts are increased by contributions and allocations of income; they are decreased by distributions and allocations of loss. 40
Connecting the Pieces The 704(b) Regulations neatly tie together the principal tax and economic provisions of the LLC agreement: 1. Contributions. 2. Allocations. 3. Distributions. 4. Capital Accounts. The economic deal and the tax terms are interrelated. There are other tax-related provisions but these four concepts are fundamental and are the ones we focus on. In a sense, the Capital Accounts summarize the other three concepts. Capital Accounts are essential for typical LLC agreements and partnership tax. 41
Connecting the Pieces In the Investment Company LLC Agreement, the most crucial tax-related sections are: Section 4.1 (Distributions). Section 4.2 (Allocations). Section 1.4.2(e) (Liquidating Distributions). Section 2.3 (Capital Contributions). However, the Agreement relies heavily on Exhibit A ("Definitions"). Some of the most important and surprising provisions are tucked away in the definitions rather than in the text. Do not neglect the definitions, especially not the definitions of "Capital Account" and terms relating to the Capital Account. 42
The Life Cycle Of The LLC Begins Investor contributes cash and all the issued and outstanding stock of Corp 1. CASH CORP 1 Fair Market Value: $1,000 $1,000 Basis : $1,000 $0 LLC uses the cash to buy Corp 2. Asset Manager proposes to increase the value of Corp 1 and Corp 2 by providing services, and receiving a share of the proceeds from any increase in value. 43
The LLC is Born Investor and Asset Manager form an LLC in Year 1. Investor contributes cash and Corp 1 stock. 44
The LLC is Born Contribution is Tax-Free Investor recognizes no gain on contributing Corp 1. Investor has in effect "sold" Corp 1 for $1,000 in LLC interests, but he defers tax on his gain. However, the LLC holds Corp 1 with the same zero basis that Corp 1 had for the Investor. The Investor has built-in gain on Corp 1, which will later come back to haunt him. 45
The LLC is Born The book value of the LLC’s assets – generally, the fair market value of the contributed assets, as agreed by the parties – is equal to $2,000 (including $1,000 cash). $2,000 will be credited to Investor’s Capital Account. However, the tax basis of the LLC in its assets (called "inside basis") is only $1,000, because the LLC inherits Investor’s basis in the property. The excess of book value over basis at the time of contribution is built-in gain, equal to the amount of gain Investor would have recognized on a cash sale. 46
Capital Contributions Capital Contributions include cash and the Gross Asset Value of property contributed. However, the amount of liabilities that the property is subject to is debited from the Capital Account. " Capital Contributions " means, with respect to any Member, the amount of money and the initial Gross Asset Value of any property (other than money) contributed to the Company with respect to the Membership Interest held by such Member. 47
Documenting the Contributions 2.3.1 Member's Capital Contribution. Each Member's initial Capital Contribution is set forth on Exhibit B. Exhibit B shows: $2,000 value of capital contribution by Investor. $0 capital contribution by Asset Manager. Some advisors recommend that Asset Manager put in at least some capital. In any case, services are not capital. Sometimes the LLC Agreement or a separate "Contribution Agreement" will contain representations and warranties as in a sale. 48
Gross Asset Value The value of property reflected in Capital Accounts is often defined, as in the Investment Company Agreement, as "Gross Asset Value." Investment Company LLC has no debt so gross and net value are equal. "Gross Asset Value" means, with respect to any asset, the asset's adjusted basis for federal income tax purposes, except as follows: 49
Gross Asset Value Focus on who gets to make the decision about what the Gross Asset Value of an asset is, especially after the initial contribution. Initial Gross Asset Value is usually a mutual decision between the Company and the contributor. (a) The initial Gross Asset Value of any asset contributed by a Member to the Company shall be the fair market value of such asset, as determined by the contributing Member and the Company; 50
The Business Deal The business deal is that Investor gets back the first $2,000 of cash flow. Investor puts in $1,000 cash, and property that the parties agree has a value of $1,000. Asset Manager benefits only to the extent that the value of the LLC increases to more than $2,000. For simplicity, we assume that Investor has no preferred return on his capital. 51
Documenting the Distributions Section 4.1.1(a) says that Investor first receives a cumulative distribution equal to his initial Capital Contribution. He receives the first $2,000 of distributions. Section 4.1.1(b) says that after Investor receives this first $2,000 of distributions, distributions are made 20% to Asset Manager and 80% to Investor. 52
Documenting the Distributions (a) First, 100% to Investor until the cumulative distributions under this Section 4.1.1(a) equal Investor's initial Capital Contribution. (b) Second, twenty percent (20%) to Asset Manager and eighty percent (80%) to Investor. 53
What Gets Distributed? Answer: " Net Cash Flow " Net Cash Flow is defined by reference to defined terms such as "Disbursements," "Reserves," and "Gross Receipts." Notwithstanding all these definitions, the upshot in this Agreement is that Net Cash Flow generally means whatever amount the Managers decide is available for distribution. Members may want tighter controls. over distributions. 54
Net Cash Flow Different LLC agreements use different terms for what gets distributed, including: "Net Profits." "Net Income." "Distributable Income." The exact term doesn't matter, but a phrase like "Net Cash Flow" is less misleading than some others: Profits and income do not get distributed. Cash (and sometimes property) gets distributed. 55
Don’t Confuse Distributions with Allocations Allocations are adjustments on the books of the LLC. Distributions are actual cash or property. 56
"Payments" to Members Partnership tax practitioners often distinguish " distributions " from " payments ." "Payments" do not enter directly into the formula. "Payments" are treated entirely or partially as if paid to third parties. "Payments" are sometimes set forth outside the LLC agreement, including: " Guaranteed payments" for capital or services. Payment of sales price for property sold to the LLC. 57
"Payments" to Members However, this Agreement provides in vague terms for certain "payments." 2.4.1 Loans to the Company. The Members may lend money to the Company as approved by the Managers. 3.1.9 Compensation. Compensation of the Managers will be fixed from time to time by an affirmative vote of a Majority in Interest. 58
What is Asset Manager’s Interest? Answer: Asset Manager has a $0 interest in capital and a 20% Capital: interest in profits. $0.00 In almost every LLC there are Profits: "capital interests" and "profits interests." 20% It is often misleading to express ownership as either a single percentage or as a number of "units." 59
What is Asset Manager’s Interest? " Capital Interest": Any interest that would give the holder a share of the proceeds if the partnership's Capital: assets were sold at fair market value and the proceeds distributed in liquidation of $0.00 the partnership. Profits: "Profits Interest": 20% Any partnership interest other than a capital interest. Rev. Proc. 93-27, 1993-2 C.B. 343. 60
Does Asset Manager Have a Capital Account? Answer: Yes and no. The Asset Manager starts with a zero Capital Account. However, the Asset Manager’s Capital Account will build up over time as income is allocated to the Asset Manager (and will be reduced again as the Asset Manager receives distributions). Initial Capital Account Investor $2,000 Asset Manager $0 61
Is Asset Manager Taxable on Receiving the Profits Interest? Answer: Generally no. With a few exceptions, if a person receives a profits interest for the provision of services to or for the benefit of a partnership in a partner capacity or in anticipation of being a partner, the IRS will not treat the receipt of the profits interest as a taxable event for the partner or the partnership. 62
Possible Exceptions IRS may try to impose tax if: 1. The profits interest relates to a Capital: "substantially certain and predictable stream of income" (like income from $0.00 high-quality debt securities or a high- quality net lease). Profits: 2. Within two years of receipt, the partner 20% disposes of the profits interest. 3. The profits interest is a "publicly traded" limited partnership interest. 63
How to Draft Profits Interests Elaborate terms defining and governing the Asset Manager's "profits interest" are not essential , although may be desirable. A distribution scheme in which the Investor receives all his contributed capital, and profits are split 80/20 , without more, represents a profits interest for Asset Manager. 64
How to Draft Profits Interests Especially if the LLC has a formal equity compensation plan, it may want additional documents such as a "Profits Interest Plan," and individual "Profits Interest Awards" for each recipient. The LLC may also want a service contract with the service provider. However, the distribution provisions of the LLC agreement are essential; always check the LLC agreement. 65
So… How Does an LLC Allocate Income and Loss? Remember: allocations must be consistent with the economic deal as the Regulations construe it. Over the LLC’s lifetime : Contributions +/- Allocations = Distributions. At any given point in time : Contributions +/- Allocations – Distributions = Capital Account 66
What is Allocated? Answer: "Profits" (and "Losses" and other "items"). You can use other terms, but be clear that allocations are accounting entries and not actual money or property. "Net Cash Flow" gets distributed, not allocated. 67
"Profits" and "Losses" The definition of "Profits" and "Losses" starts from taxable income and then makes adjustments. "Profits" or "Losses" means, for each Allocation Year, an amount equal to the Company's taxable income or loss for such Allocation Year, determined in accordance with Section 703(a) of the Code (for this purpose, all items of income, gain, loss or deduction required to be stated separately pursuant to Section 703(a)(1) of the Code shall be included in taxable income or loss), with the following adjustments: 68
"Profits" and "Losses" The adjustments bring taxable income and loss into line with "book" income and loss. However, these are the "704(b)" books – the books kept under the 704(b) Regulations – and not tax books or financial accounting books. (a) Any income of the Company that is exempt from federal income tax and not otherwise taken into account in computing Profits or Losses pursuant to this definition shall be added to such taxable income or loss;… 69
"Profits" and "Losses" Adjustments are needed to get to Profits from taxable income because Profits is a book concept, supposedly reflecting the economic deal. For example, Tax-exempt income must be allocated because it increases the amount that the LLC has available to distribute and so affects the economics. "Book value," and not basis, determines the total amount that may be depreciated (but depreciation schedules are still calculated under tax rules and not, for example, under GAAP). 70
Draft Distributions First Drafting Tip: When drafting an LLC Agreement for a business deal: Focus first on the distributions, Then see how the allocations will come out, and whether the distributions should be adjusted in light of the allocations. In most deals, the distributions are the primary concern. 71
Allocating Profits and Losses Section 4.2 of the Investment Company LLC Agreement illustrates two alternative styles of drafting allocations: "Layered" (also known as "layer cake" or "waterfall"). "Targeted" (also known as "forced"). 72
Layered Allocations Layered allocations fit within one of the "safe harbors" in the Regulations. They require liquidation in accordance with capital accounts. If the capital accounts are not what the parties intended then the liquidating distributions will not be what the parties intended. For example, an unknown drafting error in the allocations may unintentionally increase some capital accounts at the expense of other, leading some members to receive more than intended 73
Layered Allocations: First Tier The first "tier" of Profit allocations offsets ("charges back" or "reverses") any prior Losses. Although this tier comes first, it is generally not the first in importance. This presentation focuses on Profits. If there are no Losses this first tier of Profit allocations is irrelevant . 74
Layered Allocations: First Tier Crude explanation of this charge back of prior Losses: Asset Manager starts with a zero Capital Account Losses reduce Capital Accounts; initial Losses can’t be allocated to Asset Manager or else she would have a negative Capital Account. Initial Loss allocations to Investor means that his Capital Account is less than $2,000; he is entitled to less than $2,000 on liquidation at book value. If there are no later Profits, the Company really has lost some of Investor’s $2,000, and he can’t receive his full $2,000. However, if there are later Profits offsetting the initial Loss, the initial Loss was temporary; the Company now can give Investor back his $2,000, and his Capital Account should reflect $2,000 or more. 75
Layered Allocations: First Tier The Company allocates Profits first to Investor to charge back prior Losses, bringing his Capital Account back up to $2,000, the minimum amount he should receive over the lifetime of the Company. (i) First, Profits shall be allocated one hundred percent (100%) to Investor in an amount equal to the excess, if any, of the cumulative Losses allocated to Investor pursuant to Section 4.2.1(b)(ii) for all prior Allocation Years over the cumulative Profits allocated pursuant to this Section 4.2.1(a)(I) for all prior Allocation Years. 76
Layered Allocations: Second Tier Assuming there are no prior Losses remaining to be charged back, Profits are simply allocated 80/20. The second tier of allocations is actually the general rule. (ii) Second, after giving effect to the allocations made pursuant to Section 4.2.1(a)(I), Profits shall be allocated twenty percent (20%) to Asset Manager and eighty percent (80%) to Investor. 77
Targeted Allocations Many LLC agreements nowadays omit specific allocation rules, in favor of "targeted" allocations. The targeted capital account provision says: Allocate so that Capital Accounts (with certain adjustments relating to nonrecourse debt) equal the amounts the members would receive in a liquidating distribution. 78
Targeted Allocations Instead of following detailed allocation instructions specified in the LLC agreement, the LLC’s accountants must figure out each year how to make allocations based on what the LLC would distribute if the LLC liquidated at book value at the end of the year. This is sometimes called the "forced" allocation approach because allocations are forced to correspond to a hypothetical liquidating distribution for each Member. 79
Targeted vs. Layered Both methods are intended to get to the same place. However, if something goes wrong, the different methods seek to save different aspects: Targeted allocations : economic terms (distributions) are thought to be safe. Layered allocations: tax treatment is thought to be safe. Of course the distribution provisions still need to be carefully thought through when using targeted allocations. Targeted allocations are especially handy when there is an elaborate multi-tier distribution waterfall. However, targeted allocations are not used in some situations (for example, certain investments by tax-exempts in real estate LLCs, where the dreaded "fractions rule" is relevant). 80
Why Does the Allocation Language Go On So Long? Answer: The possibility of negative capital accounts. Most LLC agreements include a series of complicated exceptions to the primary allocation provisions. These are sometimes called the "regulatory" (or "special" or "curative") allocations. These allocations are directed at actual or potential negative capital accounts. A positive capital account should imply an ultimate right to receive distributions. Does a negative capital account therefore imply an ultimate obligation to make contributions? 81
Why Does the Allocation Language Go On So Long? But remember: The IRS has no authority to require capital contributions. The most the IRS can do is to force allocations to be made in such a way that: A negative capital account will not arise except to the extent that the member has (or is deemed to have) an obligation to contribute capital; or If such a negative capital account arises anyway, then to the extent possible, income will be allocated to the member to increase the capital account. Many agreements use the term "Adjusted Capital Account" to refer to the result of adding required contributions on to the capital account. 82
Adjusted Capital Account Deficit The "Adjusted Capital Account Deficit" starts with the Capital Account. It adds back amounts that the Member: Is obligated to restore (none under our facts), or Is deemed obligated to restore (this would only arise if there are distributions or deductions attributable to nonrecourse debt). It subtracts certain deductions and distributions that are expected to be made later. " Adjusted Capital Account Deficit " means, with respect to any Member, the deficit balance, if any, in such Member's Capital Account as of the end of the relevant Allocation Year, after giving effect to the following adjustments: . . . 83
Nonrecourse Debt Perhaps the most common situations in which the Regulatory Allocations come into play are those in which members take deductions or distributions attributable to (funded by or sourced to) nonrecourse debt. Roughly speaking, a deduction or distribution is attributable to nonrecourse debt to the extent it reduces a capital account below zero. Deductions or distributions are not necessarily attributable to nonrecourse debt, even if the LLC has nonrecourse debt. 84
Nonrecourse Debt "Minimum Gain" can be thought of as the amount of negative capital account that is attributable to nonrecourse debt – the amount that the lender, and not the member, stands to lose. The member has no obligation to make a Capital Contribution to eliminate the negative Capital Account; the debt is nonrecourse. However, the IRS can require the LLC to eventually allocate income to the member in order to eliminate the negative Capital Account. Roughly, the "Minimum Gain Chargeback" is income that is allocated to eliminate a negative Capital Account attributable to nonrecourse debt . 85
What Have We Learned So Far? Capital Accounts begin with a contribution of cash or property. If contributed property is appreciated (i.e., its value is higher than its tax basis), there will be built-in gain, which will be allocated to the member over time in accordance with Code § 704(c). Allocations of income and loss are made in accordance with Code § 704(b) to ensure allocations have economic effect. Safe harbors exist for "Layered Allocations," but the modern trend is to instead use "Targeted Allocations." The "Regulatory Allocations" address special situations that involve or could involve negative capital accounts. 86
Sale of Corp 2 Assume that Corp 2 is sold in Year two for $2,000, resulting in $2,000 in proceeds, $1,000 in book income, and $1,000 in tax income. The business deal is that the first $2,000 in cash is returned to Investor. However, the $1,000 book income represents profits, and is allocated $800 to Investor and $200 to Asset Manager. There has been $1,000 of profits (the value of the LLC increased by $1,000 over the initial value of $2,000), and the business deal is that, over the lifetime of the LLC, Asset Manager is entitled to 20% of all profits. 87
Asset Manager Has "Phantom Income" Asset Manager has "phantom income" in year two – she has $200 of taxable income, but no distribution to pay it with. Phantom income here is a consequence of the economic deal. It is not the result of faulty legal draftsmanship or inept accounting. 88
Minimum Tax Distribution A common solution to the phantom income problem is a minimum tax distribution: Require the LLC to first distribute enough to the parties so that they can pay tax on the income allocated. This solution means that Investor is not getting all of the first $2,000 of cash, but he is getting most of it. 89
Minimum Tax Distribution 4.1.2 Minimum Tax Distribution. Except as otherwise provided in Section 1.4.2, notwithstanding Section 4.1.1 the Company shall make distributions out of Net Cash Flow to the Members at such times and in such amounts as are reasonably estimated by the Managers to be at least sufficient to enable each Member to make timely payments of federal, state and local income taxes , including estimated taxes, attributable to such Member's Membership Interest. 90
Minimum Tax Distribution Section 4.1.2 only requires the tax distribution to be a reasonable estimate of the amount needed to pay taxes. The estimate may be less than is actually needed. Section 4.1.2 only requires the tax distribution to be made out of "Net Cash Flow." For example, the Company does not need to borrow money to make a tax distribution. No matter what the LLC agreement says, there is always some risk that a Member will have phantom income. 91
Minimum Tax Distribution Distributions under this Section 4.1.2 shall be made twenty percent (20%) to Asset Manager and eighty percent (80%) to Investor. Any amount distributed pursuant to this Section 4.1.2 will be deemed to be an advance distribution of amounts otherwise distributable to the Members pursuant to Section 4.1.1(b) and will reduce the amounts that would subsequently otherwise be distributable to the Members pursuant to Section 4.1.1(b) in the order they would otherwise have been distributable. 92
Minimum Tax Distribution A tax distribution is normally treated as an advance on amounts that otherwise would be distributed in the future. Tax distributions affect the timing of distributions but in general are not intended to alter the total distributions that the member is entitled to receive over the lifetime of the LLC. Tax distributions have no special status under tax law; they are treated for tax purposes the same as any other distributions. Tax law does not require tax distributions. The LLC can make distributions for any reason or no reason; some distributions happen to be designed so that the members have enough cash to pay their taxes. 93
Minimum Tax Distribution There are many ways to draft tax distribution provisions; no approach is ideal. Tax distributions are usually based on assumed tax rates, specified conventions and/or estimates; actual tax liability is harder to determine than you might think. Carefully consider tax distributions, especially if you are in the position of the Asset Manager (i.e., the service provider). Assuming that the LLC wants to give the members some relief from the problem of phantom income, there are techniques other than tax distributions, such as loans or special allocations. 94
Sale of Corp 1 Assume that Corp 1 is sold in Year three for $2,000, yielding: $2,000 in cash proceeds. $1,000 in book income. $2,000 in tax income. Investor got the first $2,000 of proceeds in Year two (assume no Minimum Tax Distribution in Year two), so Year three cash of $2,000 is split 80/20: $1,600 to Investor. $400 to Asset Manager. 95
Liquidating Distributions For tax purposes, and under the Agreement, the distribution of Year 3 proceeds is a liquidation of the LLC; the LLC has no more assets. Liquidating distributions are drafted in different ways. Two common approaches are: In accordance with positive Capital Accounts (typical with "Layered Allocations"). In accordance with specific distribution instructions in the LLC agreement (typical with "Targeted Allocations"). 96
Liquidating Distributions Liquidation provisions generally begin by requiring the Managers to take the steps required by law. 1.4.2 Liquidation of Property and Application of Proceeds. Upon the dissolution of the Company, the Managers (or, if none, a liquidator appointed by the Personal Representatives of the deceased Members) will wind up the Company's affairs in accordance with the Delaware Act, and will take any and all actions contemplated by the Delaware Act that are necessary or appropriate, including, without limitation: … 97
Liquidating Distributions For the members, the crucial provision on liquidation relates to the distribution of amounts remaining after creditors have been paid or reasonable provision has been made for their payment. This residual will be distributed either in accordance with Capital Accounts, or in accordance with a distribution scheme spelled out in the LLC agreement. (e) distributing the proceeds of liquidation and any undisposed Property to the Members in accordance with [their positive Capital Account balances] [Section 4.1.1]. 98
Liquidating Distributions In our example, liquidating in accordance with Capital Accounts or in accordance with Section 4.1.1 has the exact same results, as intended. Although the drafting trend in recent years is to require liquidation in accordance with a specified distribution schedule, if things work out right, the results will be the same under either approach. 99
Over the Lifetime of the LLC, the Formula Works Just Right INVESTOR Year Contributions Allocations Distributions One: $2,000 0 0 Two: 0 $800 $2,000 Three: 0 $800 $1,600 Life of LLC: $2,000 + $1,600 = $3,600 100
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